What is IRR — Internal Rate of Return

Internal Rate of Return (IRR) is the annualised return rate that makes the Net Present Value of an investment equal to exactly zero. Put simply, it is the annual rate of return an investment generates. A project with an IRR of 15% is expected to return 15% per year on the capital invested. IRR is used in private equity, venture capital, real estate investment and corporate capital allocation to compare and rank investment opportunities.

irr internal-rate-of-return investment business dcf private-equity

Quick reference

Accept if

IRR > required return (hurdle rate)

Otherwise reject

Hurdle rate

Typically WACC or required return

The minimum acceptable return

PE typical target

20 to 30% IRR

Varies by fund strategy and risk

Real estate typical

8 to 15% IRR

Depends on leverage and market

What IRR measures and how to interpret it

IRR is the discount rate at which the NPV of all cash flows (initial investment plus all future inflows and outflows) equals exactly zero. It represents the break-even rate of return — the rate at which the present value of future returns exactly equals the cost of the investment.

If a project has an IRR of 18% and the required return (hurdle rate) is 12%, the project is worth undertaking — it generates 6 percentage points more return than the minimum required. If the IRR is 9% and the hurdle rate is 12%, the project destroys value and should be rejected.

IRR is expressed as an annual percentage, making it immediately comparable to other returns: bond yields, equity market returns, cost of debt, and alternative investment opportunities. This comparability is its primary advantage over NPV, which produces a euro amount rather than a percentage.

In private equity, IRR is the standard performance metric. A fund that buys a company for 10.000.000, receives 2.000.000 in dividends over 5 years and sells for 25.000.000 at year 5 has achieved a specific IRR on that investment. PE fund IRRs of 20 to 30% are considered strong performance; below 15% is often considered disappointing relative to the risk taken.

IRR assumes that all interim cash flows are reinvested at the IRR rate itself — an assumption that is often unrealistic for high-IRR investments. This reinvestment assumption is IRR's main theoretical weakness and can cause it to overstate the true return. The Modified Internal Rate of Return (MIRR) corrects for this by assuming reinvestment at a more realistic rate.

The IRR equation

Formula

0 = -C_0 + \sum_{t=1}^{n} \frac{CF_t}{(1+IRR)^t}

IRR is the rate (r) that makes this equation equal to zero. It cannot be solved algebraically for most cases — it is found by iteration: try a rate, calculate NPV, adjust the rate up or down, repeat until NPV equals zero. Spreadsheets and calculators do this automatically.

C_0Initial investment (negative — cash outflow)

CF_tCash flow in period t (positive for inflows, negative for additional outflows)

IRRThe unknown — the rate that makes NPV equal to zero

nThe number of periods

Worked examples

Example 1Simple 3-year project IRR

Given: Initial investment: -100.000 | Year 1: +30.000 | Year 2: +50.000 | Year 3: +60.000

Result: IRR: approximately 23%

Solve for r where: -100.000 + 30.000/(1+r) + 50.000/(1+r)^2 + 60.000/(1+r)^3 = 0. By iteration: at r=20%: NPV = -100.000 + 25.000 + 34.722 + 34.722 = -5.556 (negative — rate too high). At r=15%: NPV = -100.000 + 26.087 + 37.807 + 39.460 = +3.354 (positive — rate too low). IRR is between 15% and 20% — approximately 18 to 19%. If the hurdle rate is 12%, this project is acceptable. If it is 20%, it is borderline.

Example 2Real estate IRR calculation

Given: Property purchase: -500.000 | Annual net rent (after costs): +22.000 for 7 years | Sale at year 7: +620.000

Result: IRR: approximately 7,8%

Cash flows: Year 0: -500.000. Years 1-7: +22.000. Year 7 additional: +620.000 (total year 7: 642.000). IRR found by iteration at approximately 7,8%. If the investor requires 8% return for this level of risk, the IRR of 7,8% indicates the investment does not quite meet the required return. Small adjustments — negotiating a lower purchase price or achieving higher rent — would push IRR above the hurdle rate.

Example 3IRR vs NPV conflict on mutually exclusive projects

Given: Project A: -100.000, returns 150.000 in year 1. IRR 50%. NPV at 10%: +36.364. | Project B: -1.000.000, returns 1.200.000 in year 1. IRR 20%. NPV at 10%: +90.909.

Result: IRR favours A (50% > 20%). NPV favours B (90.909 > 36.364).

This illustrates the scale problem with IRR. Project A has a spectacular 50% IRR but creates only 36.364 of value. Project B creates 90.909 of value at a lower 20% IRR. If you can only choose one and have the capital, Project B creates more value. IRR should not be used to choose between mutually exclusive projects of different scale — NPV is the correct metric in this case.

IRR Calculator

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Typical IRR targets by investment type

Investment Type	Typical IRR Target	Notes
Listed equity market	7 to 10%	Long-run historical average — no target, just outcome
Real estate (residential)	5 to 10%	Depends heavily on leverage and location
Commercial real estate	8 to 15%	Higher risk, typically higher return
Infrastructure	6 to 9%	Low risk, long duration, regulated returns
Private equity (buyout)	20 to 30%	Target for well-performing buyout funds
Venture capital	25 to 40%	High failure rate — requires high target on winners
Corporate capex (mature)	15 to 20%	Typical hurdle rate for corporate investment

Common mistakes with IRR

✗ Using IRR to compare projects of different scale

✓ IRR measures return rate, not absolute value created. A 50% IRR on a 10.000 investment creates 5.000 of value. A 20% IRR on a 1.000.000 investment creates 200.000 of value. When choosing between mutually exclusive projects of different sizes where you can only do one, use NPV — not IRR — to make the decision. IRR is useful for ranking multiple independent projects when capital is not constrained.

✗ Ignoring the reinvestment assumption

✓ IRR implicitly assumes that all interim cash flows (dividends, rent, interest received) are reinvested at the IRR rate. For a 25% IRR project, this means assuming you can consistently find other 25% return opportunities to deploy the cash flows into. This is often unrealistic. MIRR (Modified IRR) corrects this by specifying a separate, more realistic reinvestment rate, and is more accurate for comparing investments that generate significant interim cash flows.

✗ Not recognising that multiple IRRs can exist for non-conventional cash flows

✓ For conventional projects (one initial outflow followed by inflows), there is only one IRR. For non-conventional cash flows with multiple sign changes (outflow, inflow, outflow, inflow), multiple IRRs can exist mathematically. In this case, IRR is unreliable as a decision metric and NPV should be used exclusively.

Methodology

IRR found by iterative numerical methods (Newton-Raphson or bisection). No closed-form algebraic solution exists for most IRR problems. Spreadsheet functions (Excel XIRR for irregular cash flows, IRR for regular periodic flows) are the standard calculation tool. Typical IRR ranges are illustrative market observations, not guaranteed returns.

IRR does not account for the absolute size of the investment or risk differences between projects. Always use alongside NPV analysis and qualitative risk assessment. For very long-duration projects, IRR becomes more sensitive to terminal value assumptions and should be stress-tested.

Cite this guide

APAMLAChicago

https://calquify.com/guides/what-is-irr

Last updated: May 2026

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Frequently asked questions

What is a good IRR?

A good IRR depends entirely on the risk of the investment and the required return. An 8% IRR on a low-risk infrastructure project with government-backed revenue may be excellent. A 15% IRR on a high-risk start-up investment is weak — the failure rate of start-ups means the required return should be 25 to 40% to compensate. The relevant benchmark is always the hurdle rate — the minimum return required given the risk level. Any IRR above the hurdle rate creates value. Any below destroys it.

What is the difference between IRR and ROI?

ROI (Return on Investment) is a simple ratio: total profit divided by total investment, expressed as a percentage. It does not account for the time value of money — a 100% ROI over 10 years is very different from a 100% ROI over 2 years. IRR is a time-adjusted measure that accounts for when cash flows occur and is expressed as an annual rate. IRR is more accurate for comparing investments of different duration. ROI is simpler and sufficient for single-period comparisons or rough estimates.

Can IRR be negative?

Yes. A negative IRR means the investment returns less than the original capital — it is a loss-making investment on a time-adjusted basis. For example, investing 100.000 and receiving back only 80.000 over several years has a negative IRR. Any IRR below zero means you would have been better off not making the investment at all, even putting the money in a zero-return savings account. A negative IRR is always a strong signal to reject an investment unless there are specific strategic reasons to proceed despite the financial loss.

Sources & References

› Investopedia — Internal Rate of Return Retrieved 2026-05-18

› Corporate Finance Institute — IRR Guide Retrieved 2026-05-18

Formula based on standard mathematical and financial methods. Results are for informational purposes. Last reviewed May 2026. Version 1.