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Internal rate of return irr, finance, Other Engineering
Internal rate of return IRR
In case of IRR method cash flow are analyzed taking into account the magnitude and the timing. IRR is that discount rate which gives a net present value equal to zero. The IRR method will also give the same decision as the NPV method in case of non-mutually exclusive projects. In case of independent projects one with highest IRR will be accepted (Robert Parrino & David s. Kidwell, 2009).
Where r= Internal Rate of Return
K=opportunity cost of capital.
Merits of IRR:
• Like NPV method, IRR methods also consider time value of money.
• All cash flow are taken to calculate rate of return
• Shareholders wealth maximinsation objectives given importance.
Demerits of IRR:
• Given misleading and inconsistent result when the NPV does not decline with the discount rate.
• Difficulty in making decision when mutually exclusive project exists
• IRR method fails to give an actual exists annual profitability of an investment.
• IRR method makes in realistic assumption that interim positive cash flow are reinvested at the same rate of return.
• More than one IRR exists for projects with alternative cash flow this leads to confusion and ambiguity (I.M. Pandey, 2005).
Posted Date: 2/6/2012 10:34:36 PM | Location : United States
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