Return on Investment or Capital Employed Formula?

by Readers Question

11:42 AM, 9th May 2018
About 5 months ago

Return on Investment or Capital Employed Formula?

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Return on Investment or Capital Employed Formula?

Hi all, I’m new to this website and I have a question. What is the formula you use for return on investment/return on capital employed/rental yield? Would you mind sharing?

I just need a couple of baseline formulas to get me started. Many thanks to you all, great website. I have searched and found an article 4 years old…would the same formulas apply?

Might be a beginner question for some of you.

All help appreciated.

Mateen.



Comments

Mark Campey

15:49 PM, 9th May 2018
About 5 months ago

I work on a capital employed formula.
If you buy a property for £100k and find it at 75% thus putting £25k in as a deposit the rent is £6k pa cost of funds at 4% is £3k cost (insurance repairs etc) £1k leaving £2k this gives you a return of 8% which is liquid.
I’ve had many people over the years Challenge my theory however I’m seing an over all return on my cash of 13.8% geared to 75% which is in my opinion the optimum.
This doesn’t take any +/- in capital valuation into account it’s purely the return on your cash just as you would look at an ISA or other deposit investment.
Hope this helps.
Mark

denis knockton

19:29 PM, 9th May 2018
About 5 months ago

I work on capital deployed basis too. Best way to see the opportunity cost. Also, you take into account all of your costs and that is very important to see the true net picture. When you do basic yield i.e. annual rent divided by market value, that is not taking into account of the costs although of course you can calculate it after deducting the costs as well but I would like to see what my net invested funds returned compared to other alternatives such as shares or cash in bank etc. Of course, as Mark says this does not include your capital gain or loss.

H B

6:52 AM, 10th May 2018
About 5 months ago

It is important not to overlook stamp duty as well. While it is not an ongoing cost, it cannot be overlooked entirely when considering the investment.

I would consider spreading the cost over a number of years as a deduction to cash flow. Perhaps more correctly it would be included as part of the initial investment, so in this case £28k rather than £25k.

This would lower the return to 7.1%.

denis knockton

8:21 AM, 10th May 2018
About 5 months ago

Agreed. Stamp duty, valuation fees, legal costs and even the ancillary charges you pay out of your pocket should be included and are part of the capital you put in.

Tim Rogers

8:40 AM, 10th May 2018
About 5 months ago

I'm somewhat more simplistic in my approach. Add up all the costs of the purchase. Add up the total rental minus any regular costs, (block maintenance payments, insurance, gas / electric safety / service). I don't particularly concern myself with how the finance is split, provided your not going into the negative ie mortgage payments greater than rental , (15% profit after mortgage is a nice target)

If the percentage figure of rental / costs is above 5% then it's viable, above 7% is the target and anything over is a bonus.

If you own the property over a long time frame you need to decide if your going to keep working the cost figures on the purchase price or the current market value, always factoring the ancillary costs surveys, legal, stamp etc...

peter thomson

0:52 AM, 11th May 2018
About 5 months ago

May I offer a method which is quick and easy to work out in your head.
( 1 ) take the figure you paid for the house lets say £ 100,000
( 2 ) Knock of the last two digits. £ 1000
this leaves £ 1000 which is the monthly rent you will need to get a 12% return on your capital £500 is pro rata 6% and so on.

Adviserman

10:11 AM, 11th May 2018
About 5 months ago

You need to deduct Income Tax at your highest rate ( or Corporation Tax if via a Ltd Co ) and remember the new, more punitive regime whereby you can't offset all the mortgage costs against your profits. Thus, Buy to Let in your own name is less profitable than it was a few years ago.

AA

10:20 AM, 13th May 2018
About 5 months ago

Yes all very good. Let me put a cat amongst the pigeons. All these formula s been touted around - what is the ROCE when you have a tenant in your property that does not pay any rent for say 10 months and leaves £5k worth of damage ?

You never invest in property for an immediate or short term return. therefor all these formulas are redundant. You should be looking at long term - 10 years at least, targeting capital gains as the objective, time value of money will then bring in the rental income stream and where you buy is key - take the hint from , location , location, location.

Also factor in stormy times - else you will be scuttled so reserves are paramount.

I am surprised given the wealth of information. and shared experiences in this forum - that investing in property would be considered like investing in any other asset class.

Mark Campey

10:38 AM, 13th May 2018
About 5 months ago

Reply to the comment left by AA at 13/05/2018 - 10:20
I totally agree with what you are saying. Their is no predetermined return when investing in this way you (well I do) have to take a blended view. I calculate my returns over a rolling 3yr term using actual costs and receipts. We recalculate the capital gains every 5yrs. However this dilutes the return for example; I bought a property for £29500 in 1997 It stands me to £42k now the value is now £150k giving a £108k gain subject to CGT.
The return is calculated on the basis that at 75% LTV this is giving a return (on this property) of 12.4% using the most recent valuation. Thus reserving the capital return.
As I said this calculation is worked on the last 3yrs costs and income. I treat the capital as a completely separate calculation.
All of the comments on this subject further endorses their isn’t a clear cut formula. You could argue that I should work on my base cost but I see this as distortion as the market value is now much more hence the need to re balance +/- the capital value at set periods of time property is long term investment.

Mark Campey

10:41 AM, 13th May 2018
About 5 months ago

I totally agree with what you are saying. Their is no predetermined return when investing in this way you (well I do) have to take a blended view. I calculate my returns over a rolling 3yr term using actual costs and receipts. We recalculate the capital gains every 5yrs. However this dilutes the return for example; I bought a property for £29500 in 1997 It stands me to £42k now the value is today circa £150k giving a £108k gain subject to CGT should I sell it.
The return is calculated on the basis that at 75% LTV this is giving a return (on this property) of 12.4% using the most recent valuation. Thus reserving the capital return.
As I said this calculation is worked on the last 3yrs costs and income. I treat the capital as a completely separate calculation.
All of the comments on this subject further endorses their isn’t a clear cut formula. You could argue that I should work on my base cost but I see this as distortion as the market value is now much more hence the need to re balance +/- the capital value at set periods of time property is long term investment.

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