According to research, NPV and IRR are the most used methods of determining capital budgeting decisions. Another method that has received attention in recent years is the modified internal rate of return (MIRR).

Discuss the positive and negative aspects of these.

Finally, state the method you would use as a financial manager and explain why.

Net present value(NPV).

A project is accepted when the project have positive NPV.

Advantage of NPV; Takes into consideration the time value of money and the risk inherent in making projections about the future.

Disadvantage of NPV;NPV is limited in hence finding the correct value of the cost of capital is difficult.

It fails to include other critical costs that can have an impact on the true value of the investment.

Step-by-step explanation

Net present value(NPV).

A project is accepted when the project have positive NPV.

Advantage of NPV; Takes into consideration the time value of money and the risk inherent in making projections about the future.

Disadvantage of NPV;NPV is limited in hence finding the correct value of the cost of capital is difficult.

It fails to include other critical costs that can have an impact on the true value of the investment.

Internal rate of return (IRR).

A project is accepted when the internal rate of return is higher than the required rate of return.

Advantage; IRR takes into account time value of money even though the annual cash inflow is even and uneven hence simple to understand.

Disadvantage; The method does not take into account the important factors like project duration.

The IRR makes comparison on the project's cash flow to the project's existing costs, excluding some factors.

MIRR.

A project is accepted when the MIRR is higher than the required rate of return.

Advantages. MIRR overcomes the major disadvantage of IRR that is not taking into account the time value of money.

Helps in the measurement of sensitivity of an investment towards variation in the cost of capital.

Disadvantage. MIRR contradicts the NPV method in which cash flows are reinvested at the cost of capital.

As a financial manager NPV should be used as it is more accurate than IRR and shows the value being created by the project.