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Capital Budgeting Basics#3

# Modified irr mirr eliminate multiple sign changes 3

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Modified IRR (MIRR) Eliminate multiple sign changes 3 text methods—use  Discounting Approach Discount Future (-) CFs @ required rate Solve for IRR With only one sign change—one IRR 5

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MIRR Issues Discount rate is “external” not internal Creates a CF which does not exist If we have right rate, why not use NPV? 3 methods result in 3 MIRRs—which is right? 6
MIRR Problem Discount Year 5 CF (-\$5100) to Year 0 and combine  negative CFs PV of -5100 in Year 5 @ 10% = -\$3166.70 Year      Cash Flow   0                           -\$16000 becomes -19167   1                               6100   2                               7800        MIRR  =  18.18%    3                               8400   4                               6500        IRR (w/o)  = 21.67* 7

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Profitability Index Measures the benefit per unit cost, based on the time  value of money A profitability index of 1.1 implies that for every \$1  of investment, we receive \$1.10 worth of benefits, so  we create an additional \$0.10 in value   (PVB/PVC) PI can be useful in situations in which we have  limited capital (CAPITAL RATIONING) 8
PI Problem Year     Cash Flow @10% @ 15%      @22%    0               -14,000

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