What Does Cash-On-Cash Return Mean?
Cash-on-cash return, which is also referred to as equity dividend rate, is a ratio that simply measures how much of a profit there was after investing in a particular entity for one year. The equation is expressed as:
Cash-on-Cash Return = Yearly Pre-tax Cash / Total Money Invested
The computation for Pre-tax Cash is as follows:
Gross Potential Income - Physical Vacancy / Other Loss = Effective Gross Income
Effective Gross Income + Other Income = Gross Operating Income
Gross Operating Income - Operating Expenses = Net Operating Income
Net Operating Income - Annual Debt Service = Pre-tax Cash Flow
Note that the cash-on-cash return computation is expressed as a percentage.
Divestopedia Explains Cash-On-Cash Return
For example, an investor acquired a company and wanted to know the return of profits for a year. The company produced $4,000,000 of pre-tax cash during its first year. The total money invested for that same year was $50,000,000. Using the cash-on-cash return equation of dividing the pre-tax cash ($4,000,000) over the total money invested ($50,000,000), the total cash-on-cash return is 8%.
The cash-on-cash return formula is a very simple method to determine the yield of profit for an investment. However, it does not take into consideration the appreciation or depreciation of the investment or other risks involved in the acquisition. Basically, cash-on-cash return is used to briefly evaluate whether an investment is good or not, but should not be the sole computation to be used when deciding to invest.