Calculate the MIRR from the given cash flows The IRR evaluation method assumes t

Question

Calculate the MIRR from the given cash flows

The IRR evaluation method assumes that cash flows from the project are reinvested at the same rate equal to the IRR. However, in reality the reinvested cash flows may not necessarily generate a return equal to the IRR Thus, the modeled IRR approach makes a more reasonable assumption other than the project's IRR Conuder the following situation: Grey Fox Aviaton Company is analyzing a project that requires an initial investment of $500,000. The project's expected cash flows are: Grey For Aviaton Company's WACC is 8%, and the project has the same risk as the Firm's average project. Calculate this project's modified internal rate of return (MIRR): 25.07% 22.89% 21.80% 19.62% If Grey Fox Aviation Company's managers select projects based on the MIRRcnterion, they should this independent project. Which of the Mowing statements best descroes the difference between the IRR method and the MIRR method? The IRR method uses the present value of the initial investment to calculate the IRR. The MIRR method uses the terminal value of the initial investment to calculate the MIRR. The IRR method assumes that cash flows are reinvested at a rate of return equal to the IRR. The MIRR method assumes that cash flows are reinvested at a rate of return equal to the cost of capital. The IRR method uses only cash inflows to calculate the IRR. The MIRR method uses both cash inflows and cash outflows to calculate the MIRR.

Explanation / Answer

MIRR:

MIRR = (1288913.60/585700)1/4 -1

= 1.218 -1 = 0.218 OR 21.80%

If Grey..............., they should accept this independent project.

The statement best describes the difference between the IRR method and the MIRR method:

"The IRR method assumes that cash flows are reinvested at a rate of return equal to the IRR. The MIRR method assumes that cash flows are reinvested at a rate of return equal to the cost of capital."

year cash flow present value / future value discount rate 8% Future value of cash inflow present value of cash outflow 0 (500000) 1 500000 1 300000 (1+0.08)4-1 377913.60 2 (100000) 0.857 85700 3 450000 (1+0.08)4-3 486000 4 425000 (1+0.08)4-4 425000 inflow=1288913.60 outflow=585700

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