The capitalization rate is used by analysts to determine the feasibility of investing in a potential investment. With the help of this indicator, a comparative characteristic with the average market indicators of similar objects is carried out. Despite the simplicity of the calculation formula, the capitalization rate requires the collection of various intermediate values that affect the main parameters.
Instructions
Step 1
Determine the level of vacant space (underload) and the utilization factor of the potential object. In total, these values are 100%, therefore, having determined one, you can immediately calculate the second. Underloading is defined as the percentage of the area of non-leased premises from the total area of real estate. To determine these coefficients, it is necessary to analyze the statistical data of the market for similar objects.
Step 2
Find out how much it costs to maintain and manage the building. It is necessary to divide all expenses of the property owner into independent and dependent on the volume. The former include insurance, property tax, security, and the latter, service costs.
Step 3
Calculate the amount of net operating income for a potential investment. This requires the potential gross income, which is equal to the annual rental payments, multiplied by the facility utilization factor. Then subtract the variable costs times the utilization percentage and the fixed building maintenance costs from this figure.
Step 4
Find out the market value of the property. If the owner plans to build a building, then this value is equal to the construction costs. Otherwise, the current purchase price of the object is taken, which is determined by means of a market assessment.
Step 5
Find your capitalization rate. It is equal to the ratio of the amount of net operating income to the market value of the property. The resulting value shows what amount will be reimbursed annually from the value of the initial investment. The larger this amount, the more profitable is the investment in a potential object. It is considered optimal when this indicator is 15-20%.
