The discount rate often used in capital budgeting that makes the net present value of all cash flows from a project equal to zero. Generally the higher a project’s internal rate of return, the more desirable it is to undertake the project. IRR can be used to rank several prospective projects a company is considering. Assuming all other factors are equal among the various projects, the project with the highest IRR would probably be considered the best and undertaken first. IRR is sometimes referred to as economic rate of return (ERR).
Think of IRR as the rate of growth a project is expected to generate. While the actual rate of return that a given project ends up generating will often differ from its estimated IRR rate, a project with a substantially higher IRR value than other available options still would provide a much better chance of strong growth.
IRRs also can be compared against prevailing rates of return in the securities market. If a company can’t find any projects with IRRs greater than the returns that can be generated in the financial markets, it may choose to invest its retained earnings into the market.