Alyeska Salmon Inc., a large salmon canning firm operating out of Valdez, Alaska, has a new automated production line project it is considering. The project has a cost of $275,000 and is expected to provide after-tax annual cash flows of $73,306 for eight years. The firm's management is uncomfortable with the IRR reinvestment assumption and prefers the modified IRR approach. You have calculated a cost of capital for the firm of 12 percent. What is the project's MIRR?

Question

Quizplus · Accepted Answer

Using the modified IRR approach, we must reinvest cash flows at the cost of capital (12%). First, we must find the terminal value of the cash flows in year 8:
PV of terminal value = $73,306 / (0.12 - 0.08) = $1,832,650
Then, we can calculate the MIRR by finding the discount rate that equates the present value of the initial investment ($275,000) to the present value of the future cash flows plus the reinvestment of those cash flows at the cost of capital:
PV of cash inflows = $73,306 * ((1 + MIRR)^8 - 1) / (MIRR - 0.12)
PV of total cash inflows = $275,000 = PV of cash inflows + PV of terminal value
Solving for MIRR gives a value of 16.0%. Therefore, choice (D) is the correct answer.