An example of a Gross IRR (Internal Rate of Return) is the investment return achieved by a fund's portfolio before deducting any fees or expenses.
Illustrating Gross IRR with an Example
Consider a scenario often found in private equity or venture capital:
- A fund makes a single investment of $1 million in a company.
- Over a period of three years, this investment grows and is eventually sold for $2 million.
To calculate the Gross IRR for this specific investment, you would determine the discount rate at which the present value of the cash inflows ($2 million) equals the present value of the cash outflows ($1 million) over the three-year period.
What Makes This a Gross Calculation?
Based on the provided reference, the key characteristic making this a Gross IRR calculation is that it explicitly does not include:
- Management fees charged by the fund.
- Carried interest (profit share) paid to the fund managers.
- Any other operating expenses incurred by the fund (e.g., administrative costs, legal fees).
As the reference states, this provides an "unfiltered view of the investment returns generated by the fund's portfolio," focusing solely on the performance of the underlying asset itself.
Gross vs. Net IRR
Understanding Gross IRR is important because it differs from Net IRR.
- Gross IRR reflects the performance of the asset or portfolio before costs.
- Net IRR reflects the return received by the investors after all fees and expenses have been deducted.
Therefore, the example of investing $1 million and receiving $2 million three years later, calculated without subtracting fund-level costs, serves as a clear illustration of a Gross IRR scenario.
