Modified Internal Rate Of Return - MIRR

AAA

DEFINITION of 'Modified Internal Rate Of Return - MIRR'

While the internal rate of return (IRR) assumes the cash flows from a project are reinvested at the IRR, the modified IRR assumes that positive cash flows are reinvested at the firm's cost of capital, and the initial outlays are financed at the firm's financing cost. Therefore, MIRR more accurately reflects the cost and profitability of a project.

The formula for MIRR is:

 

 

MIRRFormula.gif

VIDEO

Loading the player...

BREAKING DOWN 'Modified Internal Rate Of Return - MIRR'

For example, say a two-year project with an initial outlay of $195 and a cost of capital of 12%, will return $121 in the first year and $131 in the second year. To find the IRR of the project so that the net present value (NPV) = 0:

NPV = 0 = -195 + 121/(1+ IRR) + 131/(1 + IRR)2 NPV = 0 when IRR = 18.66%

To calculate the MIRR of the project, we have to assume that the positive cash flows will be reinvested at the 12% cost of capital. So the future value of the positive cash flows is computed as:

 

$121(1.12) + $131 = $266.52 = Future Value of positive cash flows at t = 2

 

Now you divide the future value of the cash flows by the present value of the initial outlay, which was $195, and find the geometric return for 2 periods.

 

=sqrt($266.52/195) -1 = 16.91% MIRR

 

You can see here that the 16.91% MIRR is materially lower than the IRR of 18.66%. In this case, the IRR gives a too optimistic picture of the potential of the project, while the MIRR gives a more realistic evaluation of the project.

RELATED TERMS
  1. Cash Flow

    The net amount of cash and cash-equivalents moving into and out ...
  2. Internal Rate Of Return - IRR

    A metric used in capital budgeting measuring the profitability ...
  3. Net Present Value - NPV

    The difference between the present values of cash inflows and ...
  4. Cost Of Capital

    The required return necessary to make a capital budgeting project, ...
  5. Pooled Internal Rate Of Return ...

    A method of calculating the overall internal rate of return (IRR) ...
  6. Capital Budgeting

    The process in which a business determines whether projects such ...
Related Articles
  1. Economics

    Modified Internal Rate of Return (MIRR)

    Modified internal rate of return (MIRR) is a variant of the more traditional internal rate of return calculation.
  2. Bonds & Fixed Income

    Investors Need A Good WACC

    Weighted average cost of capital may be hard to calculate, but it's a solid way to measure investment quality.
  3. Fundamental Analysis

    Taking Stock Of Discounted Cash Flow

    Learn how and why investors are using cash flow-based analysis to make judgments about company performance.
  4. Fundamental Analysis

    Is India the Next Emerging Markets Superstar?

    With a shift towards manufacturing and services, India could be the next emerging market superstar. Here, we provide a detailed breakdown of its GDP.
  5. Term

    Estimating with Subjective Probability

    Subjective probability is someone’s estimation that an event will occur.
  6. Investing Basics

    Understanding the Modigliani-Miller Theorem

    The Modigliani-Miller (M&M) theorem is used in financial and economic studies to analyze the value of a firm, such as a business or a corporation.
  7. Economics

    Explaining Kurtosis

    Kurtosis describes the distribution of data around an average.
  8. Personal Finance

    Simple Interest Loans: Do They Exist?

    Yes, they do. Here is what they are – and how to use them to your advantage.
  9. Options & Futures

    An Introduction To Value at Risk (VAR)

    Volatility is not the only way to measure risk. Learn about the "new science of risk management".
  10. Investing

    What Rising Volatility Means for Momentum

    After remaining torpid for most of the year, equity market volatility is once again rising.
RELATED FAQS
  1. What is the benefit of the Modified Internal Rate Of Return (MIRR)?

    The modified internal rate of return (MIRR) is a financing metric used in business capital budgeting. Its primary benefit ... Read Full Answer >>
  2. What is the formula for calculating the internal rate of return (IRR)?

    Computing the internal rate of return (IRR) for a possible investment is time-consuming and inexact. IRR calculations must ... Read Full Answer >>
  3. What's the difference between net present value and internal rate of return? How ...

    Both of these measurements are primarily used in capital budgeting, the process by which companies determine whether a new ... Read Full Answer >>
  4. Which is a better measure for capital budgeting, IRR or NPV?

    In capital budgeting, there are a number of different approaches that can be used to evaluate any given project, and each ... Read Full Answer >>
  5. What is the formula for calculating weighted average cost of capital (WACC) in Excel?

    When analyzing different financing options, companies need to look at how much it will cost to fund operations. There are ... Read Full Answer >>
  6. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Bear Market

    A market condition in which the prices of securities are falling, and widespread pessimism causes the negative sentiment ...
  2. Alligator Spread

    An unprofitable spread that occurs as a result of large commissions charged on the transaction, regardless of favorable market ...
  3. Tiger Cub Economies

    The four Southeast Asian economies of Indonesia, Malaysia, the Philippines and Thailand. Tiger cub economy indicates that ...
  4. Gorilla

    A company that dominates an industry without having a complete monopoly. A gorilla firm has large control of the pricing ...
  5. Elephants

    Slang for large institutions that have the funds to make high volumes trades. Due to the large volumes of stock that elephants ...
  6. Widow's Exemption

    In general terms, a widow's exemption refers to the amount that can be deducted from taxable income by a widow, thereby reducing ...
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!