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IRR has two main drawbacks. Both of which lead to wrong decision rules.1. Adding abnormal cash flows leads to more than one points at which NPV is zero, so leads to more than one IRR.2. It assumes that the returns during the project can be reinvested at the IRR rate. Whereas, it is more logical to think that they can be re-invested at the Cost of Capital.These can be overcome using MIRR, modified Internal Rate Of Return.It separates investment phase cashflows and return phase Cash flows.So there can only ever be One MIRR for one project.It assumes that re-investment can take place at the Weighted Average Cost Of Capital which would realistically be the case.However, both of these methods CANNOT be used to distinguish between mutually exclusive Projects.NPV on the other hand is based on cash flows during the life of the project disounted at the Cost Of Capital, so it is a better analysis tool in distinguishing between mutually exclusive projects.IRR and MIRR can be used to set a baseline rule for considering accepting or rejecting a proposal.
