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What Does Modified Internal Rate of Return (MIRR) Mean?

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What Does Modified Internal Rate of Return (MIRR) Mean?

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Whereas the internal rate of return (IRR) assumes that the cash flows from a project are reinvested at the IRR, the modified MIRR assumes that all cash flows are reinvested at the firm’s cost of capital. Therefore, MIRR more accurately reflects the profitability of a project. Investopedia explains Modified Internal Rate of Return (MIRR) As an example, if a two-year project with an initial outlay of $195 and a cost of capital of 12% returns $121 in the first year and $131 in the second year, one finds the IRR of the project so that the net present value (NPV) = 0 as follows: NPV = 0 = -195 + 121/(1+ IRR) + 131/(1 + IRR)2; NPV = 0 when IRR = 18.66% . However, using the MIRR method, the investor would substitute IRR with MIRR = cost of capital of 12%: NPV = -195 + 121/(1+ .12) + 131/(1 + .12)2; NPV = 17.47 when MIRR = 12%. Thus, using the IRR could result in a positive NPV (good project), but it could turn out to be a bad project (NPV is negative) as revealed by the MIRR method. Therefore

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