Cash return on assets definition
/What is the Cash Return on Assets?
Cash return on assets measures the proportional net amount of cash spun off as the result of owning a group of assets. The measure is commonly used by analysts to compare the performance of businesses within the same industry, since it is very difficult for someone to obfuscate the cash flow figure. Thus, the ratio is quite a reliable and comparable measure of asset performance across an industry. A high percentage of cash return on assets is especially necessary in an asset-heavy environment (such as any manufacturing industry), where the cash is needed to maintain, update, and invest in additional assets.
The cash return on assets is especially valuable when there is a notable difference between cash flows and reported net income, as can sometimes be the case when the accrual basis of accounting is used. In this situation, calculating the return on total assets can be misleading, so cash flow is used instead of the net income figure.
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How to Calculate Cash Return on Assets
The measure is usually derived in aggregate for an entire business, in which case the calculation is to divide the total average assets into the cash flow from operations. The formula is as follows:
Cash flow from operations ÷ Total average assets = Cash return on assets
In the calculation, the cash flow from operations figure comes from the statement of cash flows. The denominator includes all assets stated on the balance sheet, not just fixed assets.
Example of the Cash Return on Assets
The board of directors is concerned about the ability of their company, Frogmorton Industries, to generate cash. They know that the industry average is a 20% cash return on assets, and they do not believe that management is generating a return in that range. They find that Frogmorton’s cash flow from operations in the past year was $2 million, while its total average assets were $20 million. This results in a cash return on assets of 10% (calculated as $2 million cash flow from operations ÷ $20 million total average assets). It appears that management is indeed operating the business at a fairly inefficient level.