What is Internal Rate of Return (IRR)?
The effective annual return a project earns - the rate that makes its NPV exactly zero.
Internal Rate of Return (IRR): definition
IRR reframes a stream of cash flows as one number: the annualized return the project is expected to generate. If IRR exceeds your required return (the hurdle rate or cost of capital), the project is worth doing. Because it is a percentage, it is intuitive for comparing opportunities - but it has quirks with unusual cash-flow patterns.
- Accept a project when IRR > hurdle rate; reject when IRR < hurdle rate
- IRR is solved iteratively - there is no simple closed-form formula
- Non-conventional cash flows (sign changes) can produce multiple IRRs
- IRR ignores project scale, so pair it with NPV when ranking
How Fintra handles it
Fintra planning computes IRR from the same projected cash flows used for NPV and payback, so a decision three headline metrics stay consistent. You set the hurdle rate as policy, and the plan flags whether a project clears it - with the caveat that IRR is shown alongside NPV to avoid the scale trap.
- IRR solved from projected cash flows and compared to your hurdle rate
- Shown with NPV and payback so no single metric decides alone
- Scenarios reveal how sensitive IRR is to timing and terminal value
Worked example
Frequently asked questions
What is a good IRR?
Good is relative to your hurdle rate - the minimum return you require given risk and cost of capital. An IRR above the hurdle adds value; below it destroys value. What counts as strong varies widely by industry and risk profile.
Why can IRR be misleading?
IRR ignores project size, assumes interim cash flows are reinvested at the IRR itself, and can produce multiple answers when cash flows change sign more than once. For these reasons NPV is often the better tie-breaker, especially across projects of different scale.
What is the difference between IRR and hurdle rate?
IRR is the return a project is expected to earn; the hurdle rate is the return you require. The decision rule compares them: proceed only when IRR exceeds the hurdle rate.
What is MIRR?
Modified internal rate of return fixes IRR unrealistic reinvestment assumption by discounting outflows at the finance rate and compounding inflows at a separate reinvestment rate. It often gives a more realistic return than plain IRR for long projects.
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