Do you use IRR for NPN's?

Question

What are folks using to provide numbers to show historical data on their NPN returns? I've been using ROI and Annualized ROI when communicating with current and potential investors but I've always felt that IRR (Internalized Rate of Return) should be the most accurate. I recently found a calculator that can make the IRR calculation using monthly cash flows and I ran the calculations for some of my last NPN returns. (Using monthly cashflows seems to me to be the most useful for the amount of time needed to do the calculations versus bi-weekly, weekly, or daily cashflows.) Annualized ROI was pretty close to the IRR calculation for most. Where it differed was with the NPN's we took back as REOs, since we had to put additional capital into the deal.

Thoughts??

Dan Mahoney · Answer

@Andreas Mirza I'm a big believer in IRR as a metric, but it's only meaningful over at least a medium-term (multi-year) time frame.  For example:  If I get in and out of a note investment at a profit in 3 months, the IRR is going to be ridiculously high, but the investor now has to reinvest that capital elsewhere.  For that reason, I think it is important to pair IRR with multiple of initial investment (e.g., 1.5x return on invested capital) or dollars returned (e.g., $150,000 profits paid to investors).

Like @Chris Seveney said, you need to use Excel's XIRR function to deal with the irregular cash flows that happen in most investments.  IRR function is designed to work with an initial investment (Year Zero) and a series of annual cash flows on the last day of Years 1-X.

Adam Adams · Answer

Most people don't know what IRR is. KISS, Keep It Simple, Stupid. Maybe I should use, Keep It Sweet n Simple. That's my motto with just about everything including how I treat investors.

Joshua Andrews · Answer

Good comments above.

I think the choice of what yardstick to use comes down to your exit method. If we work the loan and modify it, then we are looking at the yield, especially if we are holding the asset long-term. Yield is essentially the rate of interest the invested money is earning on an annualized basis. Of course this is assuming the entire amortization schedule is paid as agreed.

For performing assets yield is a great metric because you are taking the entire cash-flow stream into account.

In instances where you are creating value then selling or otherwise liquidating the asset, ROI may be more beneficial. You can definitely make the calculations more complex using half a dozen different methods, but simple is better from my experience.

- Josh

Andy Mirza · Answer

@Dan Mahoney Got it. Most of our notes have been liquidating between 6 and 18 months. We had one that liquidated after 4 months and the IRR was pretty high, so I can understand why it might not make as much sense for your business model.

@Chris Seveney

I'm trying to figure out how to streamline the process so the calculations and processes aren't so time consuming. This is the IRR calculator I found online:

https://financial-calculators.com/irr-calculator

Would it be easier to just use this or set up the XIRR function in excel?

I use Quickbooks for accounting so I can easily figure out the monthly cash flow and keep track of it on an ongoing basis. (Maybe I answered my own question from above since I'd probably use excel to keep track of the cash flows; it should be just another step or two to set up XIRR.)

Do you use monthly cashflows, weekly, or something else?

Anyone have a template they wouldn't mind sharing :)

Jim Jopling · Answer

Hey @Joshua Andrews I just finished your book yesterday and thought it was really great.  This topic is timely because I was wondering how you calculated the ROI in your case studies.

Andy Mirza · Answer

I found this older BP post that explains how to use XIRR in a spreadsheet:

https://www.biggerpockets.com/renewsblog/2010/09/02/introduction-to-internal-rate-of-return-irr/

Andy Mirza · Answer

@Chris Seveney At this point, I'm not proficient enough in Quickbooks or Excel to link them together.

My thoughts are to create an excel spreadsheet with columns listing each NPN. The rows would be the monthly cashflows and one to calculate XIRR. That way, I could run a balance sheet report for each NPN on a monthly basis in Quickbooks and drop that number into my spreadsheet. I could also drop in my projected liquidation proceeds with liquidation date as the last cashflow so that I can have my estimated IRR. It wouldn't be too painful once I set this up as I have similar tasks at the end of every month.

Is this a decent solution? Can you think of better ways of doing this? I appreciate the help.

Do you use IRR for NPN's?

Most Popular Reply