Question

Which one of the following statements is correct? A longer payback period is preferred over a shorter payback period. The payback rule states that you should accept a project if the payback period is less than one year. The payback period ignores the time value of money. The payback rule is biased in favor of long-term projects. The payback period considers the timing and amount of all of a project's cash flows.

Answer 1

Correct statement is: The payback period ignores the time value of money.

A comment on each option:

A longer payback period is preferred over a shorter payback period. This is false. A shorter term project is preferred by the payback method.

The payback rule states that you should accept a project if the payback period is less than one year. This is false. The acceptability or rejection of the project is based on the threshold for payback set by the company.

The payback period ignores the time value of money. This is true. There is no discounting of cash flows in normal payback.

The payback rule is biased in favor of long-term projects. This is incorrect. A shorter term project is preferred by the payback method.

The payback period considers the timing and amount of all of a project's cash flows. This is false. Payback period considers only the value of cash flows and not the timing, which is its major drawback.