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Assessment Of The Efficiency Of Investments Using The Internal Rate Of Return And The Profitability Index

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  • Mihaela Diaconu

    ("Petre Andrei" University, Iaşi)

Abstract

Despite their shortcomings, the IRR and PI methods continue to be a widely employed evaluation techniques in capital budgeting. However, the internal rate of return (IRR) is often associated with a problem related to the fact that this technique assumes that the cash flows can be reinvested at the IRR instead of the more appropriate discount rate. This is often associated with leading to a project-ranking problem between the IRR and the net present value (NPV). An attempt to correct the flaws associated with the IRR has been made via the creation of a modified internal rate of return (MIRR). In this paper, we show an alternative for MIRR calculation that offers the same project-ranking resulted by using VAN. Furthermore, we use the reasoning developed for modified profitability index (IPM) calculation, a useful indicator for investment selection of different sizes that offers, also, compatibility with VAN criteria.

Suggested Citation

  • Mihaela Diaconu, 2009. "Assessment Of The Efficiency Of Investments Using The Internal Rate Of Return And The Profitability Index," Theoretical and Applied Economics, Asociatia Generala a Economistilor din Romania / Editura Economica, vol. 12(12(541)(s), pages 509-516, December.
    • Handle: RePEc:agr:journl:v:12(541)(supplement):y:2009:i:12(541)(supplement):p:509-516
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