Reviewed by Sep 30, 2020| Updated on
A hurdle rate is the minimal rate of return required by a manager or an investor from a project or an investment. It allows the companies to take important decisions on whether to take a specific project or invest in a particular asset.
Hurdle rates are a very important factor to be considered by businesses when it comes to future projects or investments. Companies decide their capital projects based on the risk associated. If an expected rate of return is more than the hurdle rate, the investment is considered sound.
If the rate of return is lower than the hurdle rate, the investor may choose not to move forward with the investment. A hurdle rate is also known as a break-even yield.
Higher the risk in a project, higher is the hurdle rate. Similarly, those with lower rates come with lower risk.
In order to determine the hurdle rate, the following factors must be taken into consideration: associated risks, cost of capital, return from similar investments, and anything else that may affect the investment.
In hedge funds, the hurdle rate refers to the rate of return, which the fund manager must beat before collecting incentives.