(First off, whoever came up with the forum deserves a lifetime supply of oven-fresh cookies. I personally find it helpful in learning.)
The best explanation I’ve come up with so far (I’ll be updating this as I gain more clarity)
“When you want to grow your money, you can do that by buying an asset (which could be a business, piece of real estate, etc). Before you buy an asset, it helps to have an idea of the VALUE of the asset.
“One of the ways to find out the value of an asset is by comparing how much income it actually brings in every year with how much the asset cost you to buy. This is the capitalization rate, shown in a formula:
Annual earnings / Asset cost
Capitalization rate is a number that quickly tells you how much per income dollar your asset is costing you. Thus, a low cap rate means you are getting more value from the asset”
Please what else am I missing?
In: Economics
In gonna bookmark the shit out of this… working on property valuation for a finance group and still when I need this I can only figure the Matrix loading screen in front of my eyes 🙂
Thanks for your input
So let me see if I get this:
“When you want to make more money, you buy an asset (this could be a business, real estate, and so on.)
” A number that helps you know whether you chose the right asset is the capitalization rate (also known as cap rate) .
“You get the cap rate by comparing 2 numbers: how much extra money the asset makes you in a year (also called the ‘earnings’) and how much you paid to get the assets (that is the ‘cost’ or ‘price’ )”
Please what else can be added?
A cap rate is simply the earnings divided by the cost of the asset
If you buy a building for £1m and get 100k a year, it’s 100,000 / 1,000,000 = 10%
If you want it in time, just divide 1 by the answer
Eg
1 / 0.1 = 10 years
Another example…
Asset cost 72k
Annual earnings 3k
Cap rate = 3/72 = 4.16%
In time, 1/0.0416 = 24 years
I’m not completely sure about this one but a cap rate is a rate that measures how an asset, usually real state or PPE performs in terms of how much of it’s cost is returned as an operating income.
I think if u add a time dimension to the calculation u can get a sort of yield of the asset and compare it to other assets and evaluate performance or the time required to get your initial investment back.
Sorry if it’s not completely clear English isn’t my first language, and also Im not completely sure if this is what you asked.
For real estate a cap rate is an income approach to value. In a 10% cap rate market investors are paying $10 per dollar of possible NOI. In a 5% cap rate market investors are paying $20 for that exact same dollar of NOI. It is a valuation metric not a return.
So $50,000 on NOI will sell for $1,000,000 at a 5% cap rate in San Francisco and $50,000 NOI in Indianapolis will sell for only $500,000 at a 10% cap rate. Uninformed people or scammers will try to convince you that a cap rate is a return so they can sell crap properties in crap markets.
Now why would the same NOI sell at such different prices? Well even though the NOI only looks at one years NOI investors look with a longer lens. In San Francisco you will probably see rents increase much more than in Indy so your property will be more in the future because the NOI will be larger. Also cap rates do not account for capex. In Indy where rents may be 25% of what they are in SF you will need maybe 4 times the square feet to get to $50,000 NOI. Think of all the capex that is based on SF, roofs, carpet, paint, HVAC, etc. All of those expenses will come out of your NOI. Don’t be fooled into thinking cap rates are anything other than a valuation metric.
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