What is Internal Rate of Return (IRR)?
Internal Rate of Return (IRR) is the discount rate at which the Net Present Value of all project cash flows equals zero. It is the project's intrinsic compounded annual rate of return, expressed as a percentage. A project is generally accepted if its IRR exceeds the required rate of return (hurdle rate).
Detailed definition
Internal Rate of Return is the most intuitive performance metric in corporate finance because it expresses a project's economics as a single annualised percentage. A real-estate flip with an IRR of 28% beats a corporate-bond investment yielding 5%, all else equal. Investors immediately understand the comparison, which is why IRR remains the headline number in private-equity LP reports, infrastructure tenders, and capital-budgeting templates more than 60 years after Joel Dean popularised it in his 1951 book "Capital Budgeting".
Mathematically, IRR is the solution for r in the equation NPV = 0 = Sum of CashFlow_t / (1+r)^t. There is no closed-form solution for projects with more than two cash flows; the calculation is iterative, which is why Excel's IRR function uses Newton's method, and why most financial calculators solve it through a Newton-Raphson loop with a 10% seed guess. Modern spreadsheets and financial calculators solve it instantly, but the answer is only as good as the cash-flow forecast that feeds it.
Hurdle-rate benchmarking is where IRR meets reality. For a typical 2026 US corporate project, finance teams compare IRR against a weighted average cost of capital of 8% to 10%, anchored to the 10-year Treasury yield (around 4.2% in mid-2026) plus a 4% to 5% equity risk premium. Indian infrastructure projects use a higher hurdle (12% to 14%) reflecting the rupee discount rate; safe-withdrawal-rate retirement work uses a real 5% to back-test the 4% rule. The same IRR number can be excellent or terrible depending on which hurdle it is judged against.
IRR has known limitations. Projects with multiple sign changes in cash flow (for example a mine that requires a large clean-up cost at the end) can have multiple valid IRRs, making the metric ambiguous. Modified IRR (MIRR) addresses this by assuming intermediate cash flows are reinvested at the cost of capital rather than at the IRR itself. For irregular cash flow dates, XIRR is used. For mutually exclusive projects of different scales (build a $1M factory at 30% IRR or a $100M factory at 18% IRR?), NPV is the better tiebreaker because IRR can favour the smaller project even when the bigger one creates far more dollar value.
Formula
Find r such that NPV = Sum from t=0 to n of (Cash Flow_t / (1 + r)^t) = 0
- Cash Flow_t = Cash flow in year t
- r = IRR - the unknown discount rate to solve for
- t = Year (0, 1, 2, ..., n)
- n = Number of years
Worked example
Suppose you invest $100,000 in a project that pays back $30,000 per year for 5 years. Find the IRR.
- Year 0 cash flow: -$100,000
- Years 1-5 cash flow: +$30,000 each
- Try r = 10%: NPV = $13,723 (positive, IRR > 10%): ...
- Try r = 15%: NPV ≈ $551 (positive, very close): ...
- Try r = 15.24%: NPV ≈ $0: IRR = 15.24%
Related terms
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Frequently asked questions
What is the Internal Rate of Return?
IRR is the discount rate that makes the NPV of all project cash flows equal to zero. It is the project's intrinsic compounded annual rate of return. Accept projects with IRR above your required return.
How is IRR different from NPV?
NPV is a dollar amount; IRR is a percentage rate. NPV depends on a discount rate you must choose; IRR is the discount rate that makes NPV zero. Both methods often agree on accept/reject decisions for normal projects.
What is the difference between IRR and XIRR?
Standard IRR assumes evenly-spaced annual cash flows. XIRR (Excel's extended function) handles cash flows on specific dates - useful for real-world investments with irregular timing like fund distributions or real-estate refinances.
What is the IRR weakness?
IRR can have multiple solutions for irregular cash flows (those with more than one sign change), making it ambiguous. It also implicitly assumes reinvestment at the IRR itself, which may not be realistic. MIRR addresses both issues.
Can IRR be negative?
Yes. A negative IRR means the project loses money compared to keeping the cash. Mathematically the discount rate is below zero - meaning future cash flows have higher value than initial investment in absolute terms, but the project still does not return capital.
What is a good IRR?
Good is relative to your hurdle rate. For a low-risk corporate bond, an IRR of 6% is excellent. For a venture-capital investment, IRR below 25% is often considered poor. Compare against opportunity cost, not absolute thresholds.
What hurdle rate do US corporate finance teams use in 2026?
Most US corporate finance teams use a weighted average cost of capital (WACC) hurdle in the 8% to 10% range for 2026 projects, anchored to the 10-year Treasury yield plus a 4% to 5% equity risk premium. Capital-intensive industries (utilities, infrastructure) sit at the lower end; venture and growth equity demand 20% or higher to compensate for tail risk.
How does IRR relate to a Money-Multiple or MOIC?
Money-on-money multiple (MOIC) ignores time, while IRR is annualised. A 3x MOIC over 5 years equals roughly 24.6% IRR, but the same 3x over 10 years is only 11.6%. Private equity funds report both because IRR rewards quick wins (subscription-line distortions) and MOIC rewards absolute dollars returned.