Which statement is true about the difference between the equity multiple and IRR in terms of the time value of money?

• A. Equity multiple is total cash returned divided by equity invested and ignores timing; IRR accounts for timing and discounting.
• B. Equity multiple accounts for the time value of money using a discount rate.
• C. IRR ignores cash flows after the initial investment.
• D. Equity multiple equals IRR multiplied by 100.

Answer: (A)

The time value of money is reflected in how IRR and equity multiple treat cash flows. Equity multiple simply measures total cash returned divided by equity invested and ignores when those cash flows occur. It answers “how much” you got back overall, not “when.” So if you invest 1 and receive 2 back at any pace, the EM is 2x, regardless of the timing.

IRR, on the other hand, incorporates timing by discounting future cash flows to present value. It’s the rate that makes the net present value of all cash flows (including the initial investment and all distributions or exits) equal to zero. Because of this, earlier cash returns boost IRR, while later returns lower it. So two deals with the same total cash relative to equity can have different IRRs depending on when cash flows occur.

That’s why the statement describing EM as ignoring timing while IRR accounts for timing is the true comparison. The other statements misstate how EM or IRR treat timing or their relationship.