Modified internal rate of return (MIRR)

Last updated: 17.03.2016

Modified internal rate of return (MIRR) is less frequently used method for investment appraisal that is based on discounted and compounded cash-flow methodology. It was developed to overcome the following disadvantages of internal rate of return (IRR):

  • complex calculation
  • unrealistic assumption that the project cash-flows will be reinvested at IRR – MIRR uses cost of capital and financing costs instead (34)

 

There are many ways to calculate MIRR - the easiest one is based on the following steps:

1. Division of the project cash-flow into two stages: 

  • capital outlay stage – usually the first year, but it can involve cash-outflows of further years as well

  • cash-inflow stage – the periods with positive cash-flow 

2. Calculation of present value (PV) of capital outlay stage using the entity´s financing costs (thus discount the capital outlay/s to now; how to do it is described within the article about NPV)

3. Calculation of future value (FV) of cash-inflow stage using the entity´s cost of capital (thus compound the cash-inflows to year when the useful life of investment ends)

4. Using the formula below to calculate MIRR. (34)

 

MIRR formula

The biggest disadvantage of MIRR is that it is unfamiliar and is used very rarely.

 

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Sources:

34. Modified Internal Rate of Return – MIRR (online). Citation date: 20.1.2016. Available from www: http://www.investopedia.com/terms/m/mirr.asp



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