The modified internal rate of return (MIRR) is a metric used in capital budgeting to evaluate the profitability of an investment. It is similar to the internal rate of return (IRR), but it takes into account the reinvestment of cash flows at a specified rate. This makes it a more realistic measure of an investment’s profitability, especially when cash flows are expected to be reinvested at a rate different from the IRR.
Key Facts
- Determine the cash flows: Identify the cash inflows and outflows associated with the investment or project.
- Set the reinvestment rate: Determine the rate at which you will reinvest the cash inflows. This rate is typically the cost of capital or the desired rate of return.
- Enter the cash flows into the calculator: Input the cash inflows as positive values and the cash outflows as negative values.
- Calculate the future value of cash inflows: Using the reinvestment rate, calculate the future value of each cash inflow. This can be done by multiplying each cash inflow by (1 + reinvestment rate) raised to the power of the number of periods until the cash flow is received.
- Calculate the present value of cash outflows: Determine the present value of the cash outflows by discounting each cash outflow using the reinvestment rate. This can be done by dividing each cash outflow by (1 + reinvestment rate) raised to the power of the number of periods until the cash flow is paid.
- Calculate the MIRR: Divide the future value of the cash inflows by the present value of the cash outflows. Then, take the nth root of this ratio, where n is the number of periods. Finally, subtract 1 from the result to get the MIRR.
It’s important to note that different financial calculators may have different key labels and may require you to input the calculations in a different order.
Calculating MIRR on a Financial Calculator
To calculate the MIRR on a financial calculator, you will need to follow these steps:
1. Determine the Cash Flows
Identify the cash inflows and outflows associated with the investment or project. Cash inflows are positive values, while cash outflows are negative values.
2. Set the Reinvestment Rate
Determine the rate at which you will reinvest the cash inflows. This rate is typically the cost of capital or the desired rate of return.
3. Enter the Cash Flows into the Calculator
Input the cash inflows as positive values and the cash outflows as negative values.
4. Calculate the Future Value of Cash Inflows
Using the reinvestment rate, calculate the future value of each cash inflow. This can be done by multiplying each cash inflow by (1 + reinvestment rate) raised to the power of the number of periods until the cash flow is received.
5. Calculate the Present Value of Cash Outflows
Determine the present value of the cash outflows by discounting each cash outflow using the reinvestment rate. This can be done by dividing each cash outflow by (1 + reinvestment rate) raised to the power of the number of periods until the cash flow is paid.
6. Calculate the MIRR
Divide the future value of the cash inflows by the present value of the cash outflows. Then, take the nth root of this ratio, where n is the number of periods. Finally, subtract 1 from the result to get the MIRR.
Note: Different financial calculators may have different key labels and may require you to input the calculations in a different order.
Conclusion
The MIRR is a useful metric for evaluating the profitability of an investment, especially when cash flows are expected to be reinvested at a rate different from the IRR. By using a financial calculator, you can easily calculate the MIRR of an investment and make informed decisions about whether or not to pursue it.
Sources
- How to Calculate MIRR (Modified Internal Rate of Return) on My Financial Calculator
- MIRR Guide | Modified Internal Rate of Return (+ Calculator)
- MIRR Calculator – Modified Internal Rate of Return
FAQs
What is MIRR?
MIRR stands for modified internal rate of return. It is a metric used in capital budgeting to evaluate the profitability of an investment, taking into account the reinvestment of cash flows at a specified rate.
How is MIRR different from IRR?
MIRR is different from IRR in that it considers the reinvestment of cash flows at a specified rate, while IRR does not. This makes MIRR a more realistic measure of an investment’s profitability, especially when cash flows are expected to be reinvested at a rate different from the IRR.
When should I use MIRR instead of IRR?
You should use MIRR instead of IRR when cash flows are expected to be reinvested at a rate different from the IRR. This is often the case when evaluating long-term investments or projects with uneven cash flows.
How do I calculate MIRR on a financial calculator?
To calculate MIRR on a financial calculator, you will need to follow these steps:
- Determine the cash flows.
- Set the reinvestment rate.
- Enter the cash flows into the calculator.
- Calculate the future value of cash inflows.
- Calculate the present value of cash outflows.
- Calculate the MIRR.
What is the formula for calculating MIRR?
The formula for calculating MIRR is: