Project payback: a couple of simple examples

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

The end of work on any project ends with the calculation of the period or its payback period. There are certain time limits, having reached which, any enterprise should generate income. Otherwise, the project is considered unprofitable. In this case, to save the work done (if the result is recognized

unpromising, they begin to change economic indicators: they reduce the cost of materials, equipment, technologies. To calculate the payback of the project, the minimum that you need to know is the expected profit and capital investments, both one-time and periodic. In the first case, the calculation is rather primitive. The payback of the project is calculated by dividing the one-time capital investment by the annual profit.

For example: when building a tool shop, resources were invested in the purchase of a land plot, building materials, payment for labor, and purchase of equipment. Roughly speaking, in the first years of its existence, the maintenance of the building did not require repair. Therefore, the payback of the project will be equal to 3 million rubles (land) + 15 million rubles. (building materials) + 10 million rubles. (labor payment) + 200 million rubles. (purchase andinstallation of equipment)/ 50 million rubles=4.56 years.

Probably, even a non-specialist understands that such a calculation is quite primitive: in any case, investments do not end at the stage of putting the building into operation. Wages for workers, payment for energy carriers, equipment repairs and much more are included in operating costs, which significantly affect the payback period of the project. The same formula cannot always be applied in different conditions, industries or services.

The payback period of an investment project will be calculated correctly only if current maintenance costs are taken into account (and if the project involves the reconstruction or innovations in existing enterprises, then also savings in operating costs are taken into account).

For example: an additional way for receiving freight trains was built and put into operation at the railway station. Then the payback of the project will be limited to a period that is equal to the reciprocal of the discount rate. This ratio, in turn, is comparable to the ratio of capital costs to the product of the difference between the savings in operating costs and additional costs and the difference between the unit and the share of all tax payments. Agree, a rather confusing definition. Everything looks much simpler in the form of a formula: T \u003d 1 / E \u003d K / (E-Edop)(1-y).

In our example, the current costs will be the cost of repairs, lighting and track depreciation. Savings in operating costs must be calculated based on the estimated rate per car-hour of downtime and savedcar-hours.

If you know the payback of the project, or rather, its period, then in the future you can easily calculate the economic efficiency of the entire enterprise as a whole. It is determined by the internal rate of return, profitability index, net present value. It is sometimes simplified to net income. The payback period of the project, the calculation of which we presented last, just suits this case.