The Cash on Cash Equation for Investors

One way investors analyze a potential deal is to look at the cash on cash potential outcomes. Cash on cash (CoC) refers to the amount of money returned divided by the amount put in. So, if you invest $10,000 in a company and end up with $50,000 at time of exit, it was a 5x CoC deal. This is a much easier number to contemplate when compared to the more commonly used internal rate of return (IRR) as the IRR takes into account the amount of time the investment required to get to exit (e.g. getting 3x the investment in two years vs getting 3x the investment in eight years makes for a vastly different IRR).

Generally, VCs have a goal of any one investment having a CoC outcome of 8-10x. So, for every dollar they put in they expect to get back eight to ten dollars. Lately it has taken an average of seven years from VC investment to exit, so the process takes significant time. I would argue that it is worthwhile to start talking in terms of CoC relative to time with a simple equation. This approximates IRR, but is easier to compute mentally when compared to saying we had a 20% IRR on that day. A simple equation might be something like add 1x for every year the investment is outstanding starting at 2x CoC (double the investment). If the investment takes three years, a great outcome would be 4x CoC, if it it takes seven years, a great outcome would be 8x CoC (which equates to the average VC investment length and desired outcome of eight times the investment).

What do you think? Is cash on cash relative to timeframe worth talking about more frequently?

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