Question
Which of the following statements is NOT correct regarding the payback period method: The decision rule is to accept an investment if its payback period is below the benchmark time set by the company. It represents the time it takes for a project to repay its initial investment. It is easy to understanc I and can offer a liquidity insight. It is considered the most sophisticated investment appraisal method used when making investment decisions.
Answer
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Glenna
Master · Tutor for 5 years
Answer
The incorrect statement is "It is considered the most sophisticated investment appraisal method used when making investment decisions."
Explanation
## Step 1: Understand the Payback Period Method The Payback Period Method is a simple capital budgeting technique, which measures the time it takes for a proposed investment project to generate cash flows equal to the original investment.## Step 2: Evaluate each Statement The first statement says, "The decision rule is to accept an investment if its payback period is below the benchmark time set by the company." This is correct; an investment will be accepted if its payback period is under the predetermined period. The second statement reads, "It represents the time it takes for a project to repay its initial investment." This is also accurate as it describes the basic function of the payback period concept.The third statement, "It is easy to understand and can offer a liquidity insight," also holds true. The method simply computes the time to recover initial investment, technically providing insights regarding the liquidity position of the venture.The fourth statement states that, "It is considered the most sophisticated investment appraisal method used when making investment decisions." This is incorrect. Despite its use, the payback period is an unsophisticated (or a basic) method due to its simplicity and omission of several crucial factors such as the time value of money.