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  • Steven Fletcher

Breaking Down Cash on Cash Returns

One crucial metric in multifamily real estate is the Cash on Cash (CoC) return.


This metric helps investors evaluate the annual return they are earning on the cash they invested in a property.


Let's break it down with a specific example.


What is Cash on Cash Return?


Cash on Cash return is the ratio of annual pre-tax cash flow to the total cash invested.


It's a straightforward way to measure the profitability of a real estate investment, particularly for those who finance a portion of their purchase with debt.


Formula:


CoC Return= (Annual Pre-Tax Cash Flow) / (Total Cash Invested) X 100


Example Calculation:


Property Details (keeping it simple here):


Purchase Price: $1,000,000


Down Payment (25%): $250,000


Loan Amount (75%): $750,000


Annual Rental Income: $120,000


Operating Expenses: $60,000


Annual Debt Service (mortgage payments): $40,000


Step-by-Step Calculation:


Calculate Annual Pre-Tax Cash Flow:


Annual Pre-Tax Cash Flow = Annual Rental Income – Operating Expenses – Annual Debt Service


{Annual Pre-Tax Cash Flow} = $120,000 - $60,000 - $40,000 = $20,000


Determine Total Cash Invested:


The total cash invested includes the down payment and any other initial costs, but for simplicity, we'll use just the down payment in this example:


{Total Cash Invested} = {Down Payment} = $250,000


Calculate Cash on Cash Return:


{Cash on Cash Return} = $20,000/ $250,000 × 100 = 8%


What Does This Mean?


An 8% Cash on Cash return means that for every dollar invested in cash, the investor earns 8 cents annually before taxes (showing the immediate return on the actual cash investment).


Why is CoC Important?


Direct Feedback: It provides a direct glimpse into the profitability of the property without considering long-term factors like appreciation.


Comparative Analysis: Investors can compare the CoC return with other investment opportunities.


Financing Impact: It highlights the impact of financing on returns, helping investors understand the benefits/drawbacks of utilizing debt (which amplifies both good and bad).


__________


The Cash on Cash return allows us to make more informed decisions and ultimately create baselines for the yields we need to execute projects.

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