Question

Over the years finance theorists have developed more sophisticated investment evaluations techniques. One of the more recent developments is the Modified Internal Rate of Return (MIRR) method of evaluating capital investments. It assumes a reinvestment rate for cash flows at the required rate of return, rather than at the Internal Rate of Return (IRR), resulting in a more conservative evaluation. Why is this appropriate as an evaluation method?

Answer 1

The IRR assumes that the cash flows are reinvested at the IRR and the MIRR assumes that the cash flows are reinvested at the required rate of return , hence the MIRR is a more reliable measure than the IRR. The level of accuracy of the MIRR is higher than the IRR as it measure with accuracy the cost and the profitability of a project,. The reinvestment assumption of the MIRR is practically possible , so this makes it a true rate of return and in the case of unconventional cash flows of a project, the MIRR provides better results than the IRR. The problem of multiple IRR can only be solved by MIRR as it provides a single solution.