Cash on Cash Return: how is it calculated, significance?
What exactly is this metric, how is it calculated and what's its significance?
Thanks
What exactly is this metric, how is it calculated and what's its significance?
Thanks
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ending cash/initial cash (with regard to investment). used mostly in pe (or at least the pe shop i interned). it is used because it is simple and easier for investors to understand than irr.
aka money multiple
The clarity in your post is simply spectacular and i can assume you are an expert on this field.
It's the return to show what your return on cash was not on the investment as a whole. Using leverage you can significantly increase your cash on cash return.
For example, lets say you bought a company for 100mm, 10mm cash and 90mm debt, and the value of the company went up 10% to 110mm. The return on investment would be only 10% where as you would have doubled your cash investment to 20mm, so the cash on cash return would be 100%. This would be your actual return as the debt would have been provided by an outside source.
Comments above are correct, though I'd say that cash-on-cash is not used because it's easier for investors to understand than an IRR calculation.
Cash-on-cash is important because PE funds are in the business of returning capital in excess of LP commitments and an IRR is not a good way of measuring dollar amounts returned. For example, would you rather have an investment with a 6 month 100% IRR and 1.25x cash-on-cash, or 5 year 25% IRR and 2.75-3.00x cash-on-cash return? PE funds would almost always choose the latter for a variety of reasons.
Also, if you know the cash-on-cash for the entire fund, you can get a quick sense of what amount of carry will be available to be split amongst the GP and those with carry.
Isn't it simply annual cash flow divided by initial cash investment?
Not annual cash flow; cash flow at time of sale, i.e. equity value/initial equity outlay (for each PE firm pro rata if a consortium).
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