Internal Rate of Return (IRR)
One of the biggest mistakes made both by investors and by the companies they invest in is not comparing what they’ll earn against what it costs them to earn it. This is especially true when you reflect on the idea of opportunity cost, which is the realization that using money one place means that you are not using it elsewhere. Internal rate of return is a method of calculating the average annualized yield of a series of cash flows. By calculating this rate, an investor or company can then compare this rate against other choices of how to use their money over the same period and decide whether they want to make this investment or not.
A simple example might be a company that wants to build