Formula
How to Calculate IRR
Internal Rate of Return — the annualized rate of return on a portfolio or investment, accounting for the timing of cash flows. The primary time-weighted performance metric used by VC funds.
Internal Rate of Return
0 = Σ CFt / (1 + IRR)^t
Where
- CFt
- = Cash flow at time t
- IRR
- = Discount rate that makes NPV equal to zero
- t
- = Time period
What Is IRR?
Internal Rate of Return (IRR) is the annualized rate of return that makes the net present value of all cash flows (investments and distributions) equal to zero. It is the standard time-sensitive performance metric for venture capital funds and individual investments. IRR rewards speed of return. A fund that returns 3x in 4 years has a much higher IRR than one that returns 3x in 10 years. This matters to LPs because capital tied up in a long-duration investment has an opportunity cost. Venture funds typically target gross IRRs of 20-30%+ to justify the illiquidity premium over public markets. Net IRR (after management fees and carry) is what LPs actually receive and is the figure they compare across funds.
Worked Example
A VC fund invests $10M in a startup in Year 1. In Year 5, the startup is acquired and the fund receives $40M. The IRR on this investment is approximately 32% — reflecting the 4x return achieved in 5 years. If the same $40M return came in Year 8 instead, the IRR would drop to about 19%, illustrating why timing matters as much as the return multiple.
Why IRR Matters
IRR is how VC funds are compared by institutional LPs. A top-quartile fund typically has a net IRR above 20%. But IRR can be misleading in isolation: a small fund with one early exit can have a very high IRR but low absolute dollars returned. Always look at IRR alongside MOIC and DPI for a complete picture of fund performance.
Related Terms
Frequently Asked Questions
How do you calculate IRR?
IRR is calculated using the formula: 0 = Σ CFt / (1 + IRR)^t. Internal Rate of Return — the annualized rate of return on a portfolio or investment, accounting for the timing of cash flows. The primary time-weighted performance metric used by VC funds.
What is a good IRR?
What constitutes a "good" IRR depends on context — the fund's stage, vintage year, and strategy. Check our benchmarks and calculators for specific ranges.