Hi all,
Can anyone here help to shed some lights on Example 2 (page 83 of the official Volume 5 book) how the 6.1 percent of IRR is being derived in this example please? thanks!
“A theoretical carried interest of $1 million (20 percent of $5 million) could be granted to the GP, but the IRR upon exit of investment in company A is only 6.1 percent”
It is the discount rate used for all proceeds and outlays that equates them to zero?
In other words. the discount rate (which represents the rate of return in this case) for all cashflows matching their time periods that gives me my initial investment outlay.
That’s the gross IRR for PE valuation.
Computing Gross and Net IRR is tricky.
Gross IRR = -Capital Call T+1 + Operating results T (DO THIS FOR EVERY YEARAND DON’T FORGET THE LAST YEAR).
Cash flow in Yr 2005 = Capital Call in Yr2006 + Operating Results in Yr2005
Net IRR = -Capital Call Yr2006 + Operating results Yr2005 - Management fees Yr2005 - carried interest Yr2005
Hi Argbey,
I know this post is a slightly dated, but I had the same question as well. Fortunately, I’ve figured out the answer.
The IRR of 6.1% is calculated using the CAGR (Cumulative Annual Growth Rate) formula, where CAGR % = (end value/beginning value)^(1/year) - 1.
You can refer to Investopedia here: http://www.investopedia.com/terms/c/cagr.asp
Hence, in the example, IRR = ($45 million/$40 million)^(1/2) - 1 = 6.1%
Hope this helps