Glossary - Internal Rate of Return (IRR)
The Internal Rate of Return (IRR) is a financial metric used to evaluate the profitability of an investment. It represents the rate of growth an investment is expected to generate annually. The IRR is the discount rate that makes the net present value (NPV) of all cash flows from a particular project equal to zero. In simpler terms, it's the break-even interest rate that, if applied to the cash inflows and outflows, results in a net present value of zero. This metric is widely used in capital budgeting to assess the potential return of new projects and investment opportunities, allowing investors to compare the profitability of different investments.
Also known as
- Economic rate of return
- Discounted cash flow rate of return
Use cases examples
- Investment Proposal: The projected IRR for this venture over a five-year period is 20%, indicating a highly profitable opportunity for investors.
- Venture Capital Term Sheet: The fund targets an IRR of 25% for its investments, to be achieved through a combination of early-stage equity stakes and follow-on investments.
Considerations for investors
- Investors should compare the IRR of potential investments with their target return rates to assess suitability.
- It's crucial for investors to evaluate the assumptions used in the IRR calculation, including the time frame and cash flow projections, to ensure they are realistic and achievable.
Considerations for founders
- Understanding the expected IRR of their enterprise can help founders articulate the investment opportunity more effectively to potential investors.
- Founders should be aware of the assumptions underlying their IRR calculations, as unrealistic projections can undermine credibility with sophisticated investors.
Get to know our world class tools and services
Transform your operations with world class tools
We have created several tools to help investors spot the best opportunities and manage their portfolio.
Let's unlock your business potential with Automations
Embrace the future with our tailored subscription service that combines strategic planning and practical implementation.