Double vision: Insights about the origin and interpretation of multiple IRRs

The ability of a project's internal rate of return (IRR) to quantify its economic return has been questioned by many scholars over the past 60 years, most recently by Magni (2010 Magni, C.A. (2010) Average internal rate of return and investment decisions: a new perspective. The Engineering Economist, 55(2), 150–180. [Google Scholar], 2013 Magni, C.A. (2013) The internal rate of return approach and the AIRR paradigm: a refutation and a corroboration. The Engineering Economist, 58(2), 73–111. [Google Scholar]). Although IRR is a plausible—albeit imperfect—measure of a project's economic return when the cash flow stream is conventional, IRR can be an untenable measure of an unconventional project's economic return. The goal of this article is to identify a simple, intuitive explanation of IRR, one that can be applied to any cash flow pattern. To do this, the article shows how a project's IRR systematically changes when it first crosses from the conventional into the unconventional realm (i.e., a small cash outflow is appended to a conventional cash flow stream) and then as it becomes progressively more unconventional. This process reveals that the most robust economic interpretation of IRR—for both conventional and unconventional projects—is that a project's IRRs are external benchmarks that divide the set of all plausible discount rates into positive and negative net present value (NPV) ranges, rather than internally generated returns. Because it can be difficult to estimate a project's cost of capital with precision, this information can help guide the sensitivity analysis of a project.     

On the Feasibility of Risk Based Regulation

Risk based regulation has emerged as the primary ingredientin the Basel-II proposals, where a bank capital is to becomea direct function of a bank's riskiness. While the notion thatbank capital be risk sensitive is intuitively appealing, theactual implementation, in the form of Basel-II, carries withit a host of potentially perverse side effects. Basel-II mayincrease financial risk, both for individual institutions andthe entire banking system, and hence promote financial instability.This can happen, e.g., due to the endogenous nature of risk(JEL G2)     

RANKING MUTUALLY EXCLUSIVE PROJECTS: THE ROLE OF DURATION

This paper develops a new measure of cash-flow timing called “return duration.” Numerically quite close to Macaulay duration, return duration is a straightforward function of a project's net present value (NPV) and internal rate of return (IRR). When comparing mutually exclusive projects, differences in return duration can explain ranking conflicts between NPV and IRR. The paper also clarifies the conditions under which a manager should consider duration or generalized NPV before making investment decisions when faced with such ranking conflicts.     

Foreign Capital and Economic Growth in Tanzania

Abstract: This paper addresses the issue of whether the inflow of foreign capital has contributed to economic growth in Tanzania. We distinguish between aid and loans and conclude that while aid seems to have fostered growth during the past decades, loans have apparently not. Using a simple model we show that the basic reason for this is that foreign loans are efficient in promoting growth only if several conditions are fulfilled; data suggest that this is not the case Tanzania. Résumé: Le présent document traite de la question de savoire si le flux de capitaux étrangers a contribuéà la croissance économique en Tanzanie. Nous faisons la distinction entre l'aide et le prêts et concluons que si l'aide a apparenment favorisé la croissance au cours de ces dernières décennies, il ne semble pas en être de même pour les prêts. Avec un modèle simple, nous montrons que la raison fondamentale est que les prêts extérieurs ne favorisent la croissance que si plusieurs conditions sont réunies. Les statistiques révèlent que tel n'est pas le cas en Tanzanie.     

Agricultural Supply Response in Tanzania: Has Adjustment Really Worked?

Tanzania has come a long way in her market‐oriented reforms of the past fifteen years, but the performance of agriculture has been less than satisfactory. This paper estimates supply elasticities for individual crops as well as for commodity aggregates (cash and food crops) in order to investigate whether this performance is due to a lack of response on the part of farmers or on other factors. The results suggest that farmers often respond as predicted to price incentives, but that structural features of the agricultural sector prevent the improved incentives being translated into high agricultural growth. La Tanzanie a, ces quinze derniêres années, parcouru un long chemin en matière de mise en ?uvre de réformes axées sur le marché. Pourtant les performances dans le domaine agricole sont loin d’être satisfaisantes. Le présent article évalue les élasticités de l’offre pour chaque culture ainsi que pour les agrégats de denrées (cultures de rente et cultures vivrières) afin de déterminer si cette piètre performance est due à un manque de réaction de la part des agriculteurs ou à d’autres facteurs. L’article semble suggérer que la réaction des agriculteurs aux mesures d’incitation par les prix est souvent conforme aux attentes, mais que certaines caractéristiques structurelles du secteur agricole empêchent ces mesures d’incitation plus efficientes d’engendrer une croissance agricole forte.     

Measuring the benefits of local publilc goods: environmental quality in Gaston County,North Carolina

Local governments across the United states have been confronted with a growing range of federal and state-mandated environmental protection programmes. It is found that an application of contingent valuation to a local environmental policy is internally valid by theoretically and empirically examining the economic determinants of responses to a hypothetical referendum. The resulting option price estimate is statistically reliable and has a reasonable order of magnitude. Results indicate that respondents are willing to pay for improvements in water quality,but not air qualilty. It is found that informatiion from various external sources helps to explain risk perceptions, and these perceptions, in turn influence willingness to pay. The aggregate benefits of an air and water polllution control programme to Gaston County are estimated to be $13.07 million annually with a 90% confidence interval of $11.07 million and $16.12 million.     

On the uses of corporate governance provisions

We document a large and broad-based increase in the use of corporate governance provisions in the late 1980s. As a result, most large publicly traded firms have complex governance structures. This violates an assumption implicit in many empirical studies that provision use is mutually independent. While overall provision use is not systematically related to industry grouping, the uses of some types of provisions are correlated. Most notably, supermajority vote requirements, classified boards, and shareholder meeting requirements tend to be used in concert. Firms reincorporating to Delaware tend to eliminate cumulative voting, and coverages by certain types of state antitakeover laws are correlated. We also find that firms with poison pills tend to have relatively high institutional ownership, low managerial ownership, and a high proportion of independent directors.     

Accounting Returns Revisited: Evidence of their Usefulness in Estimating Economic Returns

Accounting information is used for measuring firm performance in various financial applications—a practice supported by empirical studies demonstrating the value relevance of accounting numbers, but disputed by theoretical papers arguing that a firm's accounting rate of return (ARR) serves poorly as a proxy for its internal rate of return (IRR). We derive a new model of the ARR–IRR relation, and describe how the conservatism of GAAP constrains a firm's IRR to fall in a range bounded by its historical growth rate and ARR. Using cross-sectional data, we demonstrate that economic returns can be estimated from accounting numbers for many firms. We link empirical results to underlying economic theory, and thus contribute to understanding why accounting information is value relevant.     

Bank Loan Availability and Trade Credit Demand

This paper investigates the effects of bank loan availability on the trade credit and credit card demand of small firms, using firm‐level data from the 1995 Credit, Banks, and Small Business Survey, conducted by the National Federation of Independent Business. We find that firms increase their demand for trade credit and credit card debt when facing credit constraints imposed by banks. These results provide evidence of a pecking order of debt financing, where firms increase their reliance on potentially expensive sources of funds when bank loans are not available.