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IRR is the best criterion: Neither NPV nor MIRR is useful 1. NPV is nothing more than the unutilised or unallocated NCF and if fully allocated it will become zero and the IRR will be the maximum at Zero NPV (see papers in the link attached). 2. MIRR should not be used as the results might lead to wrong advice to the investors and potentially law suit for the wrong advice, because: a. MIRR assume reinvestment but in reality there is no reinvestment as discussed in the papers ...Link attached). b.MIRR can be misleading in the case of multiple IRR situation. In those situations the non-normal cash flow will indicate the net cash flow before discounting is either zero or negative and that being the case how come MIRR manipulate to get a higher rate of return. MIRR is dubious manipulation. c. If you keep on increasing the reinvestment rate the MIRR limitlessly will increase without any relationship to the capacity of the NCF to support such a higher return. Again a dubious return by MIRR. 1. “A New Method to Estimate NPV from the Capital Amortization Schedule and an Insight into Why NPV is Not the Appropriate Criterion for Capital Investment Decision”. paper link: https://ssrn.com/abstract=2899648.
This paper introduces a new method to estimate the NPV based on Capital Amortization Schedule (CAS) and not the conventional DCF method. The new method is more transparent. This paper questions the validity of the NPV as a preferred criterion than IRR. The results also clarify that there is no reinvestment of intermediate income, as CAS does not involve reinvestment. When there is no reinvestment, the MIRR estimate is also redundant. 2. IRR Performs Better than NPV: A Critical Analysis of Cases of Multiple IRR and Mutually Exclusive and Independent Investment Projects. https://ssrn.com/abstract=2913905
3. The Controversial Reinvestment Assumption in IRR and NPV Estimates: New Evidence Against Reinvestment Assumption (February 16, 2017). https://ssrn.com/abstract=2918744
These papers present evidence to identify the most appropriate investment criterion (IRR vs NPV) with emphasis on the controversial multiple, negative and no IRR, mutually exclusive investment and independent projects. The analysis is based on the estimated return on capital (ROC), return on invested capital (ROIC) and capital amortization schedule (CAS). Numerical evidence is furnished to recommend IRR as the best criterion and not the NPV.
The analytical results presented in these papers question some of the conventional wisdoms advocated by most finance and economic texts or project analysis guide or publications or teaching materials and therefore the contents will enable the respective authors or organization to revise or update their publications accordingly. The current practice is to prefer NPV but the evidence does not support such preference.
Dr Kannapiran c. Arjunan, PhD, MBA
While the internal rate of return (IRR) assumes the cash flows from a project are reinvested at the IRR, the modified IRR assumes that positive cash flows are reinvested at the firm's cost of capital, and the initial outlays are financed at the firm's financing cost. Therefore, MIRR more accurately reflects the cost and profitability of a project.
