What is the difference between IRR and equity multiple?
The difference is time. The equity multiple is every dollar returned divided by every dollar invested, so it measures how much you made and says nothing about when. The internal rate of return is the annual compounding rate that would have produced the same series, so it measures how hard the money worked and rises when the same profit arrives sooner. Neither is complete on its own, which is why they are always quoted together, with the hold period beside them.
Two measures of the same series
The equity multiple is arithmetic anyone can check: total distributions divided by total capital contributed. Put in 3,700,000 dollars and get back 6,248,481 dollars and the multiple is 1.69x, whether that took three years or thirty. Subtract one and you have the profit as a percentage of what you invested, 69 percent here.
The IRR takes the same flows and asks a different question: at what annual rate would this capital have had to compound, with money leaving and arriving on the dates it actually did, to produce exactly this series. That makes it sensitive to timing in a way the multiple is not, and it is why the two can rank the same two deals in opposite orders.
One multiple, four holds
The clearest way to see the difference is to hold the multiple still and move the clock. Each row below is the same 1.65x, with all of the money coming back at the exit and nothing distributed in between.
| Hold | Equity multiple | IRR |
|---|---|---|
| 3 years | 1.65x | 18.2% |
| 5 years | 1.65x | 10.5% |
| 7 years | 1.65x | 7.4% |
| 10 years | 1.65x | 5.1% |
One rate, four multiples
Run it the other way and the point lands harder. Every row here is a 15 percent IRR, again with a single payment at the exit, and the amount of money made differs by a factor of nearly three.
| Hold | IRR | Equity multiple |
|---|---|---|
| 3 years | 15% | 1.52x |
| 5 years | 15% | 2.01x |
| 7 years | 15% | 2.66x |
| 10 years | 15% | 4.05x |
Which one flatters what
A short, fast deal shows a high IRR on a small absolute profit. A long, patient hold shows a strong multiple at an unremarkable rate. Neither is dishonest, and both are incomplete, so the useful habit is to notice which one is being led with and ask for the other.
There is one structural reason the IRR gets the headline more often. Promotes are usually struck against IRR hurdles, so the measure that decides the sponsor's compensation is also the measure the marketing tends to feature. That is not an accusation of bad faith, it is an incentive worth knowing about when you read a projection, and it is why a hurdle stated against a multiple instead is worth noticing.
- An IRR without a hold period is not an answer, because the hold is half of what produced it
- A multiple without a hold period is not an answer either, for the same reason from the other side
- Both should be quoted net of fees and promote if they are meant to describe what an investor receives, and the two are different numbers on the same deal
The reinvestment assumption
An IRR implicitly assumes that every dollar returned early can be redeployed at the same rate for the remainder of the hold. In a fund with a live pipeline that can be close to true. For an individual who receives a distribution and leaves it in a bank account it is not true at all, and the further the IRR is above what can actually be earned on idle cash, the more it overstates what was really achieved.
The multiple has no such assumption, which is one of its quiet virtues. This is also the reason a modified internal rate of return exists: it asks you to state the reinvestment rate rather than assume it. It is rarely used in real estate marketing, for the obvious reason that it usually produces a lower number.
What to ask for alongside
Three things turn a pair of return figures into something you can judge. The hold period and the exit assumption, because both are inputs rather than results. Whether the figures are project level or net to the investor after the promote. And the same two measures run on a downside case, because a return that only exists at the base case is a forecast rather than a finding. Altyst reports both measures on the model and on a downside case at the same time, so the pair can be read together rather than one at a time.
Related questions
What is a good equity multiple?
It depends entirely on the hold period and the strategy, which is exactly why the multiple is never quoted alone. A 1.5x over three years and a 1.5x over ten are not comparable outcomes. Judge one against the same deal unlevered, against the alternative uses of the same equity over the same period, and against what the multiple falls to in the downside case.
How do you calculate equity multiple?
Total distributions received divided by total equity contributed, including every capital call rather than only the initial cheque. Distributions include operating cash flow, any refinance proceeds returned to investors, and the net sale proceeds. It is a gross ratio, not annualized and not discounted, which is both its weakness and the reason it is hard to manipulate.
Can a deal have a high IRR and a low equity multiple?
Easily, and it is the most common way an IRR misleads. Buy, execute quickly, and sell in eighteen months for a 1.2x and the annualized rate looks superb while the actual profit is 20 percent of the equity, before fees and taxes and before you have to find somewhere to put the money next. The reverse also happens on long holds with modest annual performance.
Which do institutional investors care about more?
Both, and typically together with a target for each, because a promote struck against an IRR hurdle alone rewards a fast exit and one struck against a multiple alone rewards a slow one. Many partnership agreements now set a hurdle on both measures for exactly that reason. Which one a given investor weights more heavily is a function of their own liabilities and their ability to redeploy capital.
Does the equity multiple account for leverage?
It reflects it but does not isolate it. More leverage means less equity in the denominator, so the multiple rises when the deal works and falls faster when it does not. The clean way to see what the leverage did is to run the same deal unlevered and compare both measures side by side, which is a two minute exercise in any model and is worth doing before the debt is agreed.
Keep reading