Internal Rate of Return (IRR)
The discount rate at which the NPV of an investment equals zero — representing its expected annualised return.
The Internal Rate of Return is the annualised rate of return that makes the net present value of all cash flows from an investment equal to zero. In practical terms, it's the break-even discount rate for an investment.
If the IRR exceeds the company's cost of capital (or hurdle rate), the investment creates value. If it falls below, the investment should be rejected.
IRR is popular because it expresses returns as a percentage, making it intuitive to compare against other investments, cost of capital, or benchmark returns. However, it has limitations: it assumes interim cash flows are reinvested at the IRR rate (which is often unrealistic), and it can produce multiple values for projects with unconventional cash flow patterns.
For these reasons, sophisticated financial analysis uses NPV as the primary decision metric and IRR as a supporting indicator. Modified IRR (MIRR) addresses the reinvestment rate assumption by using the cost of capital instead.
Related Terms
The difference between the present value of cash inflows and outflows — used to evaluate investment decisions.
A valuation method that estimates the present value of a business based on its projected future cash flows.
The blended cost of a company's debt and equity financing, used as the discount rate in valuations.
Further Reading
A founder and CFO guide to financial due diligence — what sophisticated investors examine, common red flags, and how to prepare your business.
Wondering how much your Malaysian startup is worth? Learn how investors value startups, what drives your valuation up or down, and how to negotiate confidently.