Understanding IRR
Internal Rate of Return (IRR) represents the annualized rate of return that sets your portfolio’s net present value (NPV) to zero. It provides a measure of your portfolio’s performance by factoring in the timing and magnitude of cash flows. Unlike static performance metrics, IRR incorporates both realized and unrealized returns, giving you a dynamic view of your investment performance. However, for portfolios with an effective duration of less than one year, IRR can be highly volatile and may not provide a fully reliable picture of long-term performance. This is because short-term variations in cash flows or valuations disproportionately affect the calculation.
How AngelList Calculates IRR: AngelList calculates IRR based on the cash flows associated with your portfolio. These cash flows include:
- Contributions: The amounts and dates of funds invested.
- Distributions: Cash or securities returned to you from investments.
- Unrealized Value: The current valuations of your investments, including any markups or markdowns.
The IRR displayed on your Portfolio Dashboard reflects these cash flows net of fees and carry. It is important to note that valuations for investments are delayed by 90 days to maintain confidentiality. As a result, IRR calculations only include investments made at least 90 days prior. This ensures accuracy and consistency across portfolio reporting.
Why Does IRR Change Over Time? IRR is inherently dynamic, as it depends on both the timing and the amount of cash flows. Your IRR can change even if no new investments are made, due to:
- Updated Valuations: Unrealized values may be marked up or down, reflecting changes in the underlying investments.
- Distributions: Returns from investments can alter the cash flow balance, impacting the IRR calculation.
- Time-Weighted Calculations: As the duration of your portfolio increases, IRR becomes less sensitive to short-term fluctuations, offering a more stable performance measure over time.
Conclusion
While IRR is a valuable measure of portfolio performance, it has limitations. It is less reliable for short-duration portfolios or those with high unrealized values, particularly in private investments where valuations depend on data from portfolio companies or fund leads. True IRR is only known at the end of the fund’s life, once all cash flows and final valuations are accounted for. Interim IRR may not fully reflect current values due to delayed valuations, so it should be interpreted alongside other metrics.