Internal Rate of Return (IRR)

⏱️TIMESTAMPS⏱️
0:00 Introduction to IRR
0:37 NPV calculation
1:07 NPV and IRR relationship
2:08 IRR definition
2:51 Internal Rate of Return example
3:44 NPV IRR WACC summary

In a calculation of Net Present Value, we take future values and convert them one by one to present values, using a discount rate or weighted average cost of capital, which in this example is set at 20%. The further out in the future the nominal amount, the lower the present value equivalent. To get to NPV, you now simply sum the present value amounts. The Net Present Value in this example is $35.

So how do NPV and IRR relate to each other? With NPV, you start off quantifying the nominal cash flows over the years for your project. You use the discount rate (also called WACC or hurdle rate) to calculate present values of the estimated project cash flows. The last step is to calculate the Net Present Value (or NPV) by summing the discounted cash flows.

IRR basically swaps steps 2 and 3. Just like in the NPV calculation, you start off quantifying the nominal cash flows over the years for your project. You then set the Net Present Value in the formula at zero. You can now calculate IRR, which is the output variable or dependent variable.

Here are the steps to use in the NPV formula. Step 1: start with the nominal cash flows. Step 2: apply the WACC or discount rate as an input variable. Step 3: Calculate NPV as the dependent variable.

Here are the steps to use when you want to determine Internal Rate of Return. Step 1: start with the nominal cash flows. Step 2: set NPV to zero. Step 3: Calculate IRR as the output variable.

Philip de Vroe (The Finance Storyteller) aims to make strategy, #finance and leadership enjoyable and easier to understand. Learn the business and accounting vocabulary to join the conversation with your CEO at your company. Understand how financial statements work in order to make better #investing decisions. Philip delivers #financetraining in various formats: YouTube videos, classroom sessions, webinars, and business simulations. Connect with me through Linked In!

[marlendoughty-molina]

I'm taking a financial accounting class entirely online, which I find very challenging. Not having a professor physically to go over the material, and not being able to ask questions and get responses in person rather than emails 3-5 days later is a really hard way to learn. This course has seriously been very challenging for me, just understanding the concepts and what all these financial ratios and calculations mean in the financial world. Textbooks are not always easy to understand either. I want to thank you for simplifying these formulas, explaining the meanings in "normal" English vocabulary, and showing how to use them or calculate them in a very easy way to understand. THANK YOU THANK YOU THANK YOU. After watching your videos on FV, PV, NPV, and now IRR, my brain feels so much better. Muchas gracias.

[aaaaanton]

Best explanation on YouTube - and given in a beautiful Dutch accent too!

[pandafreak]

I never comment on these vids but I have a final in an hour and you just explained this to me in 5 mins what my professor couldnt in an entire lecture. THANK YOU SO MUCH!!!

[sitijamilahnordin]

Whos here and then watch NPV videos and then came back here hahahahaha

[sapbison]

I just love this guy. I know nothing of Finance. I've taken a course and your videos strengthen me considerably in such an interesting way.

[awadz]

with so many years i try to understand this.. it just sums it all up in 5 minutes

[konstancyja]

Visuals made it work for me, now its clear! Very good explanation

[bcnicholas]

Thanks for explaining how NPV and IRR are related! That’s the piece I was having a bit of trouble with

[eng.jesseambundo]

Amazing explanation. Indeed if you understand something you can explain it to a child.

[jdj]

Deze video's helpen me zo erg nu ik op de uni zit👍

[stevenriess]

i have been trying to teach myself financial advice and your videos have been very helpful. thank you

[robalytics]

Sorry for a stupid question: in min 1.47 say and show NPV is "NPV = summing the discounted cashflows" a moment later in 2:01 you subtract the investment from the discounted cashflows and call this the NPV. So what is the NPV than?

[ML]

Thanks so much for this simply and clear explanation. I am studying construction management and this is one tool we are using for Project appraisal, to analyse what projects are selected and how.
Can I make a request? And I'm sorry if this is a stupid question. I get how to calculate the IRR, but I still can't really understand why. What is the benefit? No one really ever tells you why.

[kernowforester]

Very good explanation. Still trying to get my head around IRR vs MIRR calculations in MS Excel for a series of forestry operation projections!

[abdelhadiredouane]

Best then a course I've taken from Coursera, omg was like I'm in the desert

[shalsteven]

I understand how to calculate IRR but I don't understand how to interpret IRR in a project. If IRR is a big number, what does it implies?

[Dylan-crub]

Thank you ❤, but does this mean if you go higher then the 22% discount rate or now our IRR it's actually bad because our NPV becomes negative. So our limit in this case of IRR/Discount rate is 22% because otherwise we would lose profitability and become unprofitable because our NPV becomes negative if it is higher than 22%, is this correct?

[queniemaysombilona]

Hi, does it always have to be zero or the NPV value that is closest to zero but not negative?

[zubairkahn]

Thank you so much for the videos. And I love your Dutch accent. What I still not fully grasp is the non technical meaning of IRR. Does that mean that if IRR is less than or equal to WACC, the project should not be pursued? And whats the difference between IRR and Rate of Return? Just the time?

[IchHaba]

so is there no other way to calculate IRR than human trial and error? (not using excel or a calculator formula)