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Chapter 3

Internal rate of return (IRR)

5.1 IRR calculation

The IRR represents the discount rate at which the NPV of an investment is zero. As
such it represents a breakeven cost of capital.

 Projects should be accepted if the IRR is greater than the cost of capital.

IRR is calculated using linear interpolation.

 Calculate two NPVs for a project at two different costs of capital.

 Use the following formula to find the IRR:

N L
IRR = L + ——— (H – L)
N L – N H

where: L = lower discount rate

H = higher discount rate

N L = NPV at the lower discount rate

N H = NPV at the higher discount rate.

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