Final answer:
The payback period does not consider the time value of money and does not account for cash flows after the payback period.
Step-by-step explanation:
The payback period is a simple financial metric used to assess the profitability of an investment project. However, there are two main issues with using the payback period:
- Does not consider time value of money: The payback period ignores the fact that a dollar received in the future is worth less than a dollar received today due to inflation and opportunity cost. This can lead to incorrect conclusions about the profitability of a project.
- Does not account for cash flows after payback: The payback period only focuses on the time it takes to recover the initial investment, but it does not consider the cash flows generated by the project after the payback period. This can limit the ability to make informed decisions about the long-term profitability of the project.