Internal Rate of Return (IRR) — definition
Discount rate at which the net present value of a project's projected cash flows equals zero, used to express an investment's expected annualised return.
IRR is compared against a company's hurdle rate or cost of capital to decide whether a project meets minimum return requirements. It is commonly used alongside net present value, since IRR alone can be misleading when comparing projects of different scale or cash flow timing.
Why it matters to industrial buyers
IRR gives decision-makers a single percentage figure to compare the relative attractiveness of competing capital projects with differing cash flow profiles.
Key reference points
Comparison basis
IRR is commonly compared against a company's weighted average cost of capital or internal hurdle rate to determine project acceptability.
Commonly confused with
Net present value
IRR expresses return as a percentage; NPV expresses value creation as an absolute currency amount, and the two can rank mutually exclusive projects differently.
How it is used in practice
A board approves a production line upgrade after calculating an IRR of 18 percent, above the company's 12 percent hurdle rate.
Frequently asked questions
Can a project have more than one IRR?
Yes; projects with unconventional cash flow patterns, such as multiple sign changes, can mathematically produce more than one IRR.
Is a higher IRR always better?
Generally yes for comparable projects, but IRR should be assessed alongside NPV and risk, particularly when comparing projects of different sizes.
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Related terms
Net Present Value (NPV)
Sum of a project's projected future cash flows, each discounted to present value at a chosen rate, minus the initial capital investment.
Hurdle Rate
Minimum rate of return a project must achieve to be considered acceptable for investment, commonly set with reference to a company's cost of capital and project risk.
Discounted Cash Flow (DCF)
Valuation method that estimates the present value of an asset or project by discounting its projected future cash flows using a chosen discount rate.
Payback Period
Length of time required for the cumulative cash flows generated by an investment to equal its initial capital outlay, expressed in months or years.
Business Case
Structured document that justifies a proposed capital investment by presenting its objectives, costs, benefits, risks and expected financial return to decision-makers.
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Reference content only. Global B2B Group is independent of equipment manufacturers and financing institutions; definitions are provided for education and do not constitute engineering, financial or legal advice.