What is a hurdle rate?
The hurdle rate, or minimum acceptable rate of return (MARR), is the bar a project must clear. If the expected return is below it, the project destroys value and should usually be rejected.
How it's set
Most companies start with their weighted average cost of capital (WACC), the blended cost of debt and equity, and add a premium for risk:
Hurdle rate = WACC + Risk premium
Riskier projects, new markets or unfamiliar technology attract higher hurdle rates.
How it's used
- Net present value (NPV): discount future cash flows at the hurdle rate; accept if NPV is positive.
- Internal rate of return (IRR): accept if IRR exceeds the hurdle rate (see [XIRR](/glossary/xirr) for irregular cash flows).
- Private equity: fund managers often need to beat a hurdle (commonly 8%) before earning performance fees.
Example
A company's WACC is 11%. A new product line carries extra risk, so it adds 4%, setting a 15% hurdle rate. A project with an expected IRR of 18% passes; one at 12% does not.
Limitations
Hurdle rates rely on estimates. Set them too high and you reject good projects; set them too low and you take on poor ones.