This is Mo’ money at Napkin Finance, we’re going to talk about three letters, capital letters IRR, another term people in the finance industry used to try to confuse you. Or in the next 60 seconds, you will not be confused you’ll becoming an expert on internal rate of return.
Internal Rate of Return
You think about what does that mean “internal rate of return”. It means that if I put money down today, let’s say a hundred dollars and I internally reinvest that money, basically I don’t take any of the money out of a company that I put that hundred dollars into and in five years from now, that company pays me back two hundred dollars then that hundred that turned into 200 over five years, you go to excel and use the equals IRR calculation, that means you made fifteen percent a year on the money.
Now what that really means is that hundred dollars after the first years’ worth a hundred fifteen dollars and then as we talked about in compounding interest, fifteen percent on the hundred fifteen until we get to year five, gets us to 200 dollars on a 100 dollar investment, which means we made two times our money.
You make one times when you get your money back, you make two times when you make the extra hundred and over that period of time it says if we got interest of fifteen percent, so the internal rate of return is equal to the external rate of return; if we gave someone a 100 dollars like my buddy that we talked about from college and he paid us fifteen percent a year and then we got to 200 hundred dollars, that’s our internal rate of return, IRR. And our cash on cash return, COC would be two times and that’s it. So tell all of your financial friends that work on Wall Street that, that three-letter word is bullshit, give me another one and then come back to Mo’ money and I’ll tell you what it is.