IRR Calculator: Calculate Investment Returns

An IRR Calculator (Internal Rate of Return Calculator) is used to help investors, business owners and financial analysts calculate what the annualised return would be on an investment. It can help you decide whether an investment is worth pursuing.

The Internal Rate of Return (IRR) is the discount rate which brings the NPV of all cash flows to zero. It is basically calculating what your annual return would be and what the percentage return would be from your initial investment and expected cash flows.

For example, if you invested $10,000 into a business project your IRR Calculator would calculate what your annualised return would be based on your initial investment and expected cash flows.

It can be useful to use IRR in the United States to analyse real estate investments, expanding business projects, buying equipment, private equity and capital budgeting.

Our free IRR Calculator can calculate the Internal Rate of Return without having to do any complicated calculations.

How To Use The IRR Calculator

Using the IRR calculator is very straightforward. You simply need to input your initial investment and expected cash flows.

Steps

Enter Initial Investment – Simply enter your initial investment amount.

Enter Cash Flows – This will be your cash flows per period. Cash flow can be positive or negative. Positive meaning you are receiving money, negative meaning you have further invested.

Enter Investment Period – Enter the number of periods your cash flows cover.

Calculate – Click the calculate button to calculate your IRR.

Your Result – You will get your IRR result displayed.

To get accurate results, ensure you enter your cash flows for the same time period. If your cash flows are for each year then your IRR will be an annualised return. If your cash flows are for each month then your IRR will be a monthly return.

IRR Calculator Formula

The Internal Rate of Return can be calculated using the Net Present Value formula.

The IRR formula is:

[0 = sum from t=0 to n of (CFt / (1 + IRR)t ) ]

Where:

CFt – Cash flow per period

IRR – Internal Rate of Return

t – Time Period

n – Number of investment periods

CF0 – Initial Investment (usually negative)

The IRR is the discount rate which brings all the cash flows to a net present value of zero.

Sometimes you won’t be able to calculate IRR using simple maths. You usually have to use an iterative numerical method.

IRR Calculation Using Excel

You can calculate the IRR using Microsoft Excel.

If your cash flows are in cells A1 to A6 then type:

=IRR(A1:A6)

Excel will calculate your IRR.

Example IRR Calculation

Let’s look at an example of how to use an IRR Calculator.

Say you were looking at investing in a small business project in the United States.

You initial investment is $10,000 and you expect to receive the following cash flows:

Year Cash Flow

0 -$10,000

1 $3,000

2 $3,500

3 $4,000

4 $4,500

The initial investment will be negative as you are spending money. The future cash flows are positive as you are receiving money.

We can now plug this into our IRR formula.

0 = -10000 + 3000/(1 + r )

+ 3500/(1 + r )2 + 4000/(1 + r )3 + 4500/(1 + r )4

Now we can solve this to find our estimated IRR. It would give us an estimated annualised return of around 23.5%.

This means we are getting an estimated internal rate of return of around 23.5% per year from our investment assuming our cash flows would be as expected.

This can help us to decide whether this project is a good investment compared to other investment opportunities.

Understanding Your IRR Result

The IRR Calculator will give us a percentage which represents the estimated annualised return. Let’s look at how to understand this.

• Positive IRR – Usually indicates you’ll receive a return from your investment based on the cash flows.
• Negative IRR – Usually indicates you won’t be covering your initial investment based on the cash flows.
• High IRR – A high IRR may indicate that your investment is attractive. However, it depends on how risky it is and whether the cash flows are realistic.
• Low IRR – A low IRR may indicate that your investment isn’t producing much return.

You can also compare your IRR to your required return.

Say your required return is 12% and your IRR is 18%. This means your project may be a good investment.

However, a higher IRR doesn’t necessarily mean your investment is better. You should also consider how much you’re investing, how long your investment lasts, when your cash flows come in and how risky your investment is.

What Affects The IRR?

There are various factors that determine the Internal Rate of Return.

Initial Investment

The initial investment will have a direct impact on your IRR. If you invested a large amount then your IRR may be lower.

Cash Flows

How much money you receive from your investment will play an important part. The higher your cash flows the higher your IRR will be. Whereas lower cash flows can reduce your IRR.

When You Receive Your Money

The sooner you receive your money the better your IRR will be.

Length Of Investment

The longer your investment lasts the lower your annualised return may be. Two investments could have similar total profits but different IRRs based on the length.

Further Investment

If you have to invest more money during your investment then this can reduce your overall IRR.

Risk Of The Project

Unforeseen costs, late payments, market changes and lower than expected revenues can affect your investment.

Benefits Of Using An IRR Calculator

There are many benefits to using an IRR Calculator.

Evaluate Investment Opportunities

Investors can see what the potential return would be.

Compare Business Projects

Business owners can compare different expansion plans, equipment and new products to see which could be profitable.

Real Estate Investment

Real estate investors can use IRR to analyse different rental properties, developments and improvements. They can take into account purchase cost, rental income, costs and sale proceeds.

Capital Budgeting

Companies use IRR to analyse long term projects and see if they are worth the initial investment based on the expected return.

Save Time

Manually calculating your IRR can be complicated, especially if your cash flows aren’t consistent. Using an online calculator makes it easier.

Compare With Your Target Return

You can compare your IRR to your target return.

Help With Financial Planning

Financial analysts and Entrepreneurs can use the IRR to help analyse potential performance of long term projects.

Accuracy & Assumptions

The calculator will give you an estimated result based on the cash flows you enter. The accuracy will depend on your financial data and assumptions.

If you want to get accurate results then consider the following:

• Accurate Cash Flows – Make sure you enter realistic initial investments and cash flows.
• Same Periods – Ensure your cash flows are for the same periods as the standard IRR formula.
• Assumed Reinvesting – Traditionally IRR assumes that any cash flows can be reinvested at the IRR. This may not be realistic.
• Multiple IRRs – If there are multiple changes in sign in the cash flows then there may be multiple valid IRRs.
• No Valid IRR – Some cash flows may not result in a real IRR.
• Not Taking Into Account Risk – IRR will not show you how risky your investment is, how volatile the market is or if your cash flows won’t happen.

One big downside of using IRR is it doesn’t take into account the size of your investment. A smaller project may have a higher IRR but not produce as much profit.

To help you make better investment decisions consider using IRR in combination with NPV, payback and other financial calculations.

If your cash flows aren’t for regular periods then consider using XIRR. XIRR takes into account the actual dates.

FAQs

What is an IRR Calculator?

An IRR Calculator is an online financial tool which calculates the Internal Rate of Return of an investment based on your initial investment and expected cash flows. Investors can use it to see how well their investment may perform.

What is a good IRR?

It depends on what type of investment you have, how risky it is, how long it lasts and what your required return is. Having an IRR higher than your hurdle rate may indicate a good investment opportunity but shouldn’t be the only factor.

What is the difference between IRR and ROI?

IRR shows you the annualised return taking into account when your cash flows come in. ROI shows you the overall return based on your initial investment and generally doesn’t take into account how long it takes to earn.

Can IRR be negative?

Yes. IRR can be negative if your investment isn’t going to cover your initial investment based on the cash flows. A negative IRR usually indicates a bad investment.

What is the difference between IRR and XIRR?

IRR assumes your cash flows are for regular periods e.g monthly or yearly. XIRR takes into account the actual dates of your cash flows so is better for investments with irregular payments.