Finance
NPV vs IRR: How to Evaluate Any Investment Like a CFO
Every capital allocation decision — buying equipment, launching a product, acquiring a company — eventually comes down to two numbers: NPV and IRR. Knowing which to trust when they disagree is what separates an analyst from a CFO.
NPV (Net Present Value)
NPV = Σ (Cash Flowt ÷ (1 + r)t) − Initial Investment
If NPV > 0, the project creates value. Use our NPV Calculator.
IRR (Internal Rate of Return)
The discount rate that makes NPV equal to zero. Compare it to your hurdle rate (cost of capital). If IRR > hurdle rate, accept. Use our IRR Calculator.
When They Agree
For a single, conventional project (one upfront cost, then positive cash flows), NPV and IRR give the same accept/reject decision.
When They Conflict
- Mutually exclusive projects of different sizes. A small project with 40% IRR may have lower NPV than a large project with 18% IRR. Always pick higher NPV.
- Non-conventional cash flows. Multiple sign changes can yield multiple IRRs — meaningless. Trust NPV.
- Different project lifespans. Use equivalent annual annuity or stick to NPV.
The Discount Rate Question
Your discount rate should reflect the risk of the cash flows. For a US public company, WACC is typical (often 7–10%). For a startup project, use venture-style hurdle rates (20–30%).
Worked Example
Project: invest $100,000 today, receive $30,000/year for 5 years. Discount rate: 10%.
- NPV ≈ $30,000 × 3.79 (annuity factor) − $100,000 = +$13,720
- IRR ≈ 15.2% — above the 10% hurdle
Both signals say accept.
FAQs
What if NPV is positive but small? Still accept — but check sensitivity to your discount rate.
Is higher IRR always better? No. Always cross-check with NPV when comparing projects.