What is the difference between ROI and IRR in capital budgeting for startups?

• A. ROI is a measure of efficiency of capital over time.
• B. ROI is the overall return on investment, while IRR factors in the time value of money and cash flows; IRR is more informative for decision-making.
• C. IRR ignores cash flows and time value.
• D. ROI and IRR are identical metrics.

Answer: (B)

Understanding how ROI and IRR differ in reflecting value and timing of cash flows in capital budgeting. ROI measures the total gain relative to cost, giving a simple percentage of what was earned overall, but it ignores when cash flows occur. IRR incorporates the time value of money by finding the discount rate that sets the net present value of all cash flows to zero, so it shows the rate of return per time period and is more informative for comparing projects or deciding against a required return. For startups with back-loaded or volatile cash flows, IRR is usually more useful than ROI because it captures timing, whereas ROI can be distorted by different investment horizons. The other ideas—IRR ignoring cash flows or time value, or ROI and IRR being identical—are incorrect.