Weaknesses of Internal Rate of Return (IRR)

Internal Rate of Return
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Weaknesses of Internal Rate of Return (IRR)

The primary weaknesses of this method are:
- IIR sometimes requires unrealistic assumptions about reinvestment of funds, and
- Manual calculation is difficult.

  Alpin McGregor
freeelance, United Kingdom
 

Weaknesses of IRR Method

The easiest way of looking at weakness of IRR model is by comparing 2 situations:
1. You have $1 and earn 100% rate of return in one year. You will have $2 at the end of the year.
2. You have $100 and earn 10% rate of return in one year. You will have $110 at the end of the year.
If you base your decision on Internal Rate of Return you will always prefer situation 1.
If you base your decision on NPV you will always prefer situation 2.
The problem in real life situations is that if you could find 100 projects of $1 that will give you 100% return then clearly that is better than one project of 100 at 10% rate of return.

  Rachid LANGAR
Business Consultant, Qatar
 

Evaluation Methods are All Based on Assumptions

Project evaluation are mostly based on assumptions and don't require to be very accurate. None of the evaluation metho...

  Tyrone Skogstrom
Management Consultant, Sweden
 

Do not Use IRR When Investing in Business Improvements

I do not recommend IRR as a decision factor for example IT investments or any investment with business improvement as ob...

 

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