Irr V. Mirr Valuation Methods

1239 Words Jan 24th, 2012 5 Pages
Carrie Simmons

IRR v. MIRR Valuation Methods

Bus 650 Managerial Finance

Kristi Rayford

February 7, 2012

1.

Abstract The Internal Rate of Return (IRR) and Modified Internal Rate (MIRR) of Return are imperative to understanding the investment on a project and the expected returns or profitability. Under the valuation method of IRR is to accept the project which has the greater number of required rate of return, or otherwise, reject the project. However, MIRR is better indicator of the project’s true profitability

IRR v. MIRR Valuation Methods

The Internal Rate of Return (IRR) is defined as the rate of return that would make the present value of future cash flows plus the final market value of an
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Alternatively, if the payments are raised to, say $1,100, the IRR of that loan will rise to 5.2%. (investopedia)

The formula for IRR, using this example, is as follows: 1. Where the initial payment (CF1) is $200,000 (a positive inflow) 2. Subsequent cash flows (CF 2, CF 3, CF N) are negative $1050 (negative because it is being paid out) 3. Number of payments (N) is 30 years times 12 = 360 monthly payments 4. Initial Investment is $200,000 5. IRR is 4.8% divided by 12 (to equate to monthly payments) = 0.400% | | Figure 1: The formula for calculating internal rate of return (IRR) | (investopedia) )

Example of MIRR
MIRR value is always unique given that we have at least one negative and one positive net cash flow. The modified internal rate of return is an average of the compounded future value of positive cash flows over the discounted present value of negative cash flows. This is a compound example below with positive cash flow at the reinvestment rate aka WACC or discount rate to find future value, and we discount each negative cash flow at the finance rate to find the present value. We then find the average of this ratio of net future value over the net present value to come up with MIRR value and formula below:

Let us assume we set up an investment that requires an initial investment of $100,000 and we expect to receive benefits and incur costs as $40,000 35,000 -20,000 40,000 38,000

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