o MIRR is a rate of return on a modified set of cash flows not the projects

O mirr is a rate of return on a modified set of cash

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oMIRR is a rate of return on a modified set of cash flows, not the project’s actual cash flowsoSince the MIRR depends on an externally supplied discount rate, the result is not truly an“internal” rate of return Summary:Discounted Cash Flow Criteria:Net Present Value (NPV):-Definition: the diference between a project’s market value and cost -Rule: invest in projects with positive NPVs-Advantages: no serious flaws; preferred decision criteria Internal Rate of Return (IRR):-Definition: the discount rate that makes the estimated NPV = 0-Rule: invest in projects when their IRR exceeds the required return -Advantages: closely related to NPV; leads to the exact same decision as NPV for conventional, independent projects-Disadvantages: cannot use to rank mutually exclusive projects or when project cash flows are unconventional Profitability Index (PI):-Definition: ratio of present value to cost; also known as the benefit/cost ratio -Rule: invest in projects when the index exceeds one -Advantages: similar to NPV-Disadvantages: cannot use to rank mutually exclusive projectsPayback Criteria:Payback Period:-Definition: the length of time until the sum of an investment’s cash flows equals its cost -Rule: invest in projects with payback periods less than the cut-of point -Advantages: easy to use and understand -Disadvantages: ignores risk, the time value of money, and cash flows beyond the cut-of pointDiscounted Payback Period:
Accounting Criteria:Average Accounting Rate (AAR):-Definition: a measure of accounting profit relative to book value -Rule: invest in projects if their AAR exceeds a benchmark AAR-Advantages: easy to calculate, information is readily available -Disadvantages: not a true rate of return; ignores time value of money, cash flows, and market valuesChapter 10: Making Capital Investment DecisionsRelevant Cash Flows:-The cash flows that should be included in a capital budgeting analysis are those that will only occur (or not occur) if the project is acceptedoThese cash flows are called incremental cash flows-Incremental cash flows: the diference between a firm’s future cash flows with a project and without the project -The stand-alone principle allows us to analyze each project in isolation from the firm simply, by focusing on incremental cash flows oStand-alone principle: evaluation of a project based on the project’s incremental cash flowsAsking the Right Question:-You should always ask yourself “will this cash flow occur (or not occur) only if we accept the project?

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