⚖️ Payback vs ARR
Both methods have strengths — and they often give different recommendations. A smart business uses both.
- Payback tells you how QUICKLY you get your money back (focuses on risk and cash flow)
- ARR tells you how PROFITABLE the investment is overall (focuses on return)
- A project with a short payback but low ARR recovers cash fast but isn't very profitable
- A project with a long payback but high ARR is more profitable but ties up cash longer
Example: Project X — Payback: 2 years, ARR: 8%. Project Y — Payback: 4 years, ARR: 18%. A cash-strapped start-up might choose X. A well-funded business might choose Y for the higher return.
💭 Qualitative Factors
Numbers alone don't make the decision. Managers must also consider non-financial factors that can't be captured in calculations.
- Corporate objectives — does the investment align with the business's strategy?
- Risk and uncertainty — how reliable are the cash flow predictions?
- Environmental and ethical impact — will it harm the environment or reputation?
- Staff implications — will jobs be created or lost?
- Market conditions — is demand likely to grow or shrink?
- Competitor actions — are rivals investing in similar things?
The 'best' investment on paper isn't always the best decision in practice. Qualitative factors can tip the balance! 🧠
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🎯 Making a Recommendation
In the exam, you may be asked to recommend which investment to choose. Here's a proven structure:
- Step 1: Calculate payback AND ARR for each option
- Step 2: Compare the quantitative results — which option is better on each measure?
- Step 3: Consider qualitative factors — risk, strategy, ethics, market conditions
- Step 4: Make a clear recommendation — state WHICH option and WHY
- Step 5: Acknowledge limitations — the forecast could be wrong, results depend on assumptions
A recommendation WITHOUT justification scores poorly. Always explain your reasoning — even if you pick the 'obvious' choice, the examiner wants to see WHY! 📝