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IRR

One potential criticism of the internal rate of return technique is that there is an implicit assumption that this technique assumes the intermediate cash flows of the project are reinvested at the internal rate of return. In other words, if you calculate the future value of the intermediate cash flows to the end of the project at the required return, sum the future values, and calculate the internal rate of return of the two cash flows, you will get the same internal rate of return as the original calculation. It the reinvestment rate used to calculate the future value is different than the internal rate of return, the internal rate calculated for the two cash flows will be different. How would you evaluate this criticism?

Solution Preview

This is a true statement. The IRR method assumes the reinvestment rate to be the same as the calculated IRR. However, this is not really a serious drawback of the IRR method. This is because an analyst can easily adjust the method to use ...

Solution Summary

The solution goes into a great amount of detail regarding the question being asked. Step by step explanation is provided for each part of the question which makes it very easy to follow along for anyone with just a basic understanding of the concepts. Overall, an excellent response to the question being asked.

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