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Definition

Internal rate of return (or IRR) is the percentage return made on the investment over a period of time; it is the discount rate at which the net present value (NPV) of an investment is zero.[1]

Purpose

IRR—along with payback and net present value—is one of three metrics commonly used to evaluate return on investment over multiple periods. An IRR will typically be compared to a firm's hurdle rate. If IRR is higher than the hurdle rate, invest; if lower, pass. For instance, a company might decide to undertake only projects with a return greater than 12%.

Construction


      Internal Rate of Return (%) = The discount rate for which the net present value is zero for a series of future cash flows after accounting for the initial investment


Note that IRR does not describe the magnitude of return; $1 on $10 is the same as $1 million on $10 million.

References

  1. ^ Farris, Paul W.; Neil T. Bendle; Phillip E. Pfeifer; and David J. Reibstein (2010). Marketing Metrics: The Definitive Guide to Measuring Marketing Performance (Second Edition). Upper Saddle River, New Jersey: Pearson Education, Inc. <http://www.amazon.com/Marketing-Metrics-Definitive-Measuring-Performance/dp/0137058292>


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