![]() ![]() However, because no property is the same with another, the cap rate of each comparable is adjusted based on its differences from the property under consideration.įor example, if the subject property is located at a stronger location than the comparable property then the cap rate of the comparable is adjusted downwards to derive the cap rate for the subject property. The typical methodology for deriving a cap rate for a particular property is by estimating cap rates of transactions of comparable properties (same property type and other characteristics to the extent allowed by available transaction data). Properties differ in many respects including, but not limited to, quality, size, construction quality, space layout and functionality, technological equipment, location, income earning prospects, age, location, etc. This is the case because real estate assets are highly heterogeneous. Thus, all else being equal, the cap rate calculation in the case of transactions involving high-risk NOI should result in a higher number than in the case of transactions involving low-risk NOI.Ĭap Rate Calculation for a Specific PropertyĬalculating a cap rate for a specific property is not an easy task at all. Higher cap rates are used in the case of high-risk NOI and lower cap rates in the case of low-risk NOI. For example, the NOI of a building with very short term leases (1-3 years) to tenants with poor credit has a much higher risk than the NOI of a building with long-term leases (10-20 years) to tenants with very strong credit. Furthermore, the cap rate that an investor will use to capitalize the NOI of a particular property in order to derive its value will depend on the risk associated with its income earning ability. It should be noted that capitalization rates vary across property types. Market capitalization rates are often estimated with the NOI of a building at the time of the transaction. There is a discussion whether a «stabilized NOI» concept should be used or the estimated NOI of the first year of the investment holding period. However, what is more complex in applying the above formula is the determination of the number that will be used as the numerator. What Makes Cap Rates Fall and Property Values RiseĬap Rate Compression: How Much Can they Fall?Ĭap Rate and Discount Rate: How do they Differ? ![]()
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