Trying to understand IRR and how one would calculate the number. Also what it means in general. Thank you!
Been snooping on here for a bit but first time posting. Thank you everyone for all of your great advice and info. 

I'm working on my first CRE deal and hoping to purchase a property with a NNN lease in place. I've been reading and doing a ton of research on how to evaluate a good deal or not. For some reason, IRR just can't stick. I'm not sure how the calculators are doing it and why when I plug things in I'm getting a negative IRR (when I know that makes no sense). Could someone explain it in laymen's terms or help me with figuring out how I would even calculate this? Thanks for all advice!!!
[{"id": "goo9swi", "text": "IRR = the discount rate which equates the present value of cash flows to zero. So the NPV of your cf at a discount rate of (IRR) is zero. \n\nWhat people say is that it is \u201csolved\u201d through trial and error to find the rate. So programs like Excel are used. The xls formula is simply =IRR(cf1,cf2...). \n\nIRR makes certain assumptions and is not perfect (mathematically you can have two IRRs, or none) and it assumes the cashflow is reinvested at the same rate, but it is one of the most popular measures of performance for real estate assets due to the time value of money and real estate returns highly dependent on asset values appreciating over time and the timing of large capital flows.   \n\nI hope there is some use in the word salad above.", "replies": [{"id": "gopembf", "text": "One of the better explanations of IRR I\u2019ve ever heard. \n\nWas bs\u2019ing with a partner of a name brand CRE shop and he goes \u201cwhat is the definition of IRR?\u201d And I explain my definition to him and ask him his version and he goes \u201cno one f\u2019ing knows, we just like them high right?\u201d", "replies": [{"id": "gopgdke", "text": "Ha. Truer words never spoken!", "replies": [], "depth": 3}, {"id": "gopzyhx", "text": "Really? I have NO idea what it means from that and I actually do know what it is and how to calculate it.", "replies": [{"id": "goqw4f0", "text": "I get it. It was a word salad. The \u201creal\u201d way to calculate it would be to discount each cashflow to time zero (the start) by a singe rate [cf/(1+r)^n] if the sum of all those discounted cash flows equals zero...that is your IRR. That is why it is a \u201ctrial and error process\u201d that is solved for. What everyone does is simply use an excel formula. \n\nIf you are not familiar, Investopedia is an incredibly useful website.  I still use it to get introductions to all kinds of stuff that pops up. It may help too!", "replies": [], "depth": 4}], "depth": 3}], "depth": 2}, {"id": "goqsrax", "text": "I\u2019ve not given the underlying meaning of IRR much thought before, and your explanation is really interesting. My understanding of interpreting NPV is that you can think of it like a \u201cgo\u201d vs \u201cno go\u201d decision maker. If NPV is positive, go, and NPV of 0 is neutral or break even. The discount rate in NPV is seen as the opportunity cost of the next best investment. Based on your explanation, could IRR be thought of as the hurdle rate to compare other potential investments against?", "replies": [{"id": "goqved6", "text": "Certainly. IRR and NPV are just two sides of the same coin. (Caveat: there are reasons why NPV is preferred). \n\nBasically. [discount rate = DR]\nNPV &gt; 0 then IRR &gt; DR\nNPV &lt; 0 then IRR &lt; DR\nNPV = 0 then IRR = DR\n\nThe cool thing is real estate analysis is not complicated compared to other disciplines. Nothing gets more complex than some algebra and time value of money.", "replies": [], "depth": 3}], "depth": 2}, {"id": "goslrzk", "text": "This was what I was looking for!! It is not perfectly mathematical cause it takes into consideration multiple assumptions (like what the property can sell at) and it's confusing to me that people can easily spout out \"oh your IRR is \\_\\_\\_\\_\" when we may not necessarily be making the same assumptions. Thank you.", "replies": [], "depth": 2}], "depth": 1}, {"id": "goo9x7l", "text": "The IRR is the discount rate that brings your NPV to zero.  Its basically the cash on cash return rate.\n\nI use excel, its much easier.  I use the XIRR function.  You could use IRR, but XIRR is better.  Goal seeking your NPV to zero is the best, due to the number of iterations.\n\nIf more cash comes in than goes out over the life of the deal, you should have a positive IRR.  Sometimes, if there are negative and positive outflows, you can have more than one mathematically correct IRR.  Negative IRR doesn't make sense, so can be ignored.", "replies": [], "depth": 1}, {"id": "goofede", "text": "I\u2019m with you on the confusion about how IRR works and I have to say.. these comments were over my head. Still trying to figure it out.", "replies": [{"id": "gop820a", "text": "e.g. I invest $1000 in a property today and sell it for $8000 three years from now.\n\nYear 0: -$1000\n\nYear 1: $0\n\nYear 2: $0\n\nYear 3: $8000\n\nThe IRR would be calculated as the annual rate ***r*** I would need for my project to breakeven in today's terms.\n\nWell, to breakeven, I need to reduce my $8000 (in 3 year's time) to a value of $1000 today. What yearly rate ***r*** would do that? Its a simple calculation:\n\n8000/(1+r)\\^3 =1000\n\n(1+r)\\^3 = 8000/1000\n\n(1+r) = 2\n\nr = 1 = 100%\n\nSo my IRR for this project is 100%.\n\nA higher IRR is good because you have to reduce/ discount cash in the future by A LOT for your project just to breakeven. So A LOT of cash flow is coming in the future.", "replies": [{"id": "gp3onzp", "text": "That you so much for this. Still not mulling it over but that was the best explanation I got.", "replies": [{"id": "gp3q4dy", "text": "Glad it helped!\n\nThe important concept you should understand that sets IRR apart from other return metrics is the **Time Value of Money**: \n\n$100 today is worth more than $100 a year from now.\n\n$100 a year from now is worth more than $100 ten years from now etc...", "replies": [], "depth": 4}], "depth": 3}], "depth": 2}, {"id": "goplc2y", "text": "Well greenbeans I have purchased and/or sold 20 CR buildings since I was 23 (42 now) and I have about 200K s.f. of med tech, office, retail buildings spread out over 7 buildings.  Never once used IRR on a purchase.  Cap rate, yes every time when applicable (stabilized).  Don't let IRR intimidate you, however if you are a CR broker and pitch building owners for listings you need to understand IRR so they think you're polished.", "replies": [{"id": "gopxcwu", "text": "Completely agree it is not a necessary metric, and it depends on the type of project.   Buying a NNN like OP I would not consider IRR. OP is buying the cash flow and any assumptions about future value of the building  on exit are tenuous. \n\nIMO the longer the time horizon to payout, the more relevant it is...developing raw land for example.", "replies": [{"id": "goslglh", "text": "Completely. It is triple net and cap rate looks good. That's why I was super confused that IRR was negative (tho I believe I calculated incorrectly). I think I might not look at IRR and just look at how cash flow is. Thank you!", "replies": [], "depth": 4}], "depth": 3}, {"id": "goq5uqm", "text": "I think Cash on Cash is the best metric. It measures how damn fast will I get my money out? What return on my money am I getting just on the cash flow?", "replies": [], "depth": 3}, {"id": "gosldsp", "text": "Thank you so much for this!! Been so intimidated and stuck on IRR and trying to understand this. Wanted to give up.", "replies": [], "depth": 3}, {"id": "gp3ou7m", "text": "Really appreciate that. I\u2019m 26, I\u2019ve been buying homes since 22 and starting to build some syndicates now so just wanting to understand it if it comes up.", "replies": [], "depth": 3}], "depth": 2}], "depth": 1}, {"id": "gooohd7", "text": "It is basically a time-weighted return metric. It is very similar to ROI, however it takes in to account the fact that money in your pocket today is worth more than money in your pocket in the future (as the money can be invested, it hasn\u2019t been eroded by inflation etc).q\n\nThe best way to learn about IRR is first by fully understanding your NPV. It makes it soooo much easier!", "replies": [], "depth": 1}, {"id": "gop3fdn", "text": "You buy for $100.  You hold for 1 year, get no cash flow and sell for $110.  Your IRR is 10% because you got a 10% return per year.  If you instead hold for 2 years, your average return is 5% per year but your IRR is only 4.88%.  IRR takes in to account the fact that you can reinvest cash flow every year and get a return.  Since your investment has no cash flow, the IRR is lower than if that $10 return was instead $5 in year 1 and $5 in year 2.   Under that scenario, you IRR and average return would both be 5%.", "replies": [], "depth": 1}, {"id": "gop8v10", "text": "IRR is the return you earn on every dollar you have invested, while it is invested. \n\nIf your IRR comes up negative, you most likely are setting up your t-bar wrong. The initial investment would be a negative number because it represents money leaving your possession. Then each year the cash flows you receive are positive. If you have to feed a project during any years those cash flows would be negative. The net proceeds at sale are added to final year cash flow.", "replies": [], "depth": 1}, {"id": "gopfbhk", "text": "Try using the spreadsheet in the link below to get a better walk-through of how the calculation works. The 4th sheet in the workbook is where I would start, and pay attention to the numbers below the calculator (ordered in year) if you don't use the macro.   Remember that in a simple deal the initial investment (year o) is entered as a negative number. \n\n&amp;#x200B;\n\n[http://www.ccim.com/sites/default/files/ccim%20financial%20calculator%20v%206%201.xls](http://www.ccim.com/sites/default/files/ccim%20financial%20calculator%20v%206%201.xls)", "replies": [{"id": "goslie8", "text": "Thank you! I will take a look at this. Really appreciate it!", "replies": [], "depth": 2}], "depth": 1}, {"id": "goq0ifc", "text": "[https://smartasset.com/investing/internal-rate-of-return-real-estate-investments](https://smartasset.com/investing/internal-rate-of-return-real-estate-investments)  \n\n\nFormula is here: \n\n[https://www.stessa.com/blog/irr-formula-for-real-estate-investors/](https://www.stessa.com/blog/irr-formula-for-real-estate-investors/)", "replies": [{"id": "goslizk", "text": "Thank you so much!", "replies": [], "depth": 2}], "depth": 1}, {"id": "goqfcxl", "text": "IRR is just the discount rate when your DCF value = PP.\n\nUnleveraged IRR without debt. Leveraged IRR with debt.", "replies": [], "depth": 1}, {"id": "goqh1x5", "text": "I would add that the cash flow from year one, CF1, should be negative because you are spending the money (more than likely) and then hopefully, the other estimates that follow for future cashflows are positive.  \n\nIRR is to help  understand the annual growth rate taking all this into account.", "replies": [], "depth": 1}, {"id": "gorzgjq", "text": "This is the best book to help understand every single RE metric:\n\nWhat Every Real Estate Investor Needs to Know About Cash Flow... And 36 Other Key Financial Measures, Updated Edition https://www.amazon.com/dp/1259586189/ref=cm_sw_r_cp_api_glt_fabc_6DQ1SMC8ZRP3J7Z63D2N", "replies": [{"id": "goslk2q", "text": "Always up for reading good books! Thank you", "replies": [], "depth": 2}], "depth": 1}, {"id": "gp2eizm", "text": "I read all the comments below and I think many give you some good insights into the math and the basic concept, but I thought I would take a stab at making it a little more real world without too much complication. \n\nIRR is a good way of comparing investments. Now it really works well in hindsight because when you look at a deal that was purchased 5 years ago and you know exactly what it cost, what cash flows were received and what it sold for, you don't have to guess or speculate relative to the numbers that you need to plug into the formulas. This is very relevant because if I am a developer and we made a deal where I promised them a 10% return (IRR) for the funds they invested and then we would split any profits over this 10% return that they got on their money, this is why I need to be able to do the calculation. \n\nNow let's take the opposite situation. I am a developer and I am trying to get people to invest into my deal and I tell them that they will get a 10% return on their funds (10% IRR), I have to \"guess\" what my annual cash flows will be, how long I will hold the project, and what I will be able to sell it for. This really is all a wild ass guess, but at the very least you have to be able to have some assumptions, back them up with statistics and then do you very best to make the deal as good as possible. Then you go back and calculate reality at the end. \n\nIf I had  the opportunity to invest in a project that had a long operating history in a stable trade area and it could be purchased for $1M and paid $100,000/year over 5 years and then sold for $1,000,000  after costs this would have an IRR of 10%. If I had another opportunity to put $1M into a ground up development deal that would create zero returns until the end of 3 years and then provide a 1 time sale of $1,330,000 which would also yield a 10% IRR, I would likely select the first investment (just what I would do) because I think so much more could go wrong (cost overruns, project takes much longer, rents are not achievable) with a ground up development deal", "replies": [], "depth": 1}]