2.16.2.1 Internal Rate of Return and Yield to Maturity
As previously mentioned, internal rate of return (IRR) is a metric used to measure the performance of existing or proposed investments. An IRR analysis is often used to help decide whether to pursue a prospective acquisition.
IRR is simply the discount rate at which the NPV of all cash inflows and outflows of an investment is zero. This means that in order to calculate IRR, you must find the discount rate at which the investment or project’s net present value is equal to zero. If the IRR on a proposed investment exceeds a desired performance threshold, then the investment is considered attractive (all else being equal).
Calculating an investment’s IRR is impossible to do with a simple calculator, so you won’t be required to do find it on the exam. However, you should be able to “eyeball” whether a project makes sense from an IRR perspective.
Also note that the IRR is equal to a bond’s yield to maturity.
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