Cap rate? What’s your thoughts?

Question

Derek Dombeck · Answer

Take the Cap Rate term and throw it away. It can be construed in so many different ways. Just analyze the properties to hit the cash on cash return you want for your business and make your offer based on that. I buy and sell in small markets in WI. Every time I see a multi family listed for sale in these areas, the Realtors want to pretend that they will perform the same as a comparable property in a large market and seldom do they actually know how to run a true cash flow analysis.

Don't stray from the numbers that work for you......

Happy Investing

Derek Dombeck

Don't stray from the numbers that work for you......

Happy Investing

Derek Dombeck

Joel Owens · Answer

If you are turning around the property most tend to use an interest only loan as they need all the cash they while stabilizing a property. So interest only tends to give the lowest debt service payment in the short term.

For properties you have the (going in) cap rate and a (stabilized) cap rate. Stabilized is usually when all repairs are done and it is almost full minus market vacancy averages.

8925 X 12 =107,100 a year

In fully stabilized older buildings operating costs ( vacancy, management, ongoing repairs, taxes, insurance,etc.) tend to be close to 50% if tenant pays utilities. If landlord it can be as high as 60% costs.

107,100 a year X .50 = 53,550

If you pay 500,000 + 30k in closing costs + 100,000 in repairs  then at 630,000

53,550 expected NOI / 630,000 = 8.5 cap rate to cost

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107,100 a year X .40% ( 60% costs - landlord paid utility such as water) = 42,840 NOI

42,840 expected NOI / 630,000 = 6.7 cap rate to cost

You need to find out what average rents are in the market and what average cap rates are for sales. It will be tougher since it is a mish mash of multiple smaller type buildings. See if there is upside to push the rents, reduce ongoing costs, and also check on value of land. It might not be current highest and best use.

When I evaluate properties I look at risk/upside. If the balance is out of whack for cash and length of time to get a size able return then it's a pass. Sometimes sellers come back around highly motivated and then I will re-look at a deal. I do not know your market but these properties seem to not have much meat on the bone.

The person saying 17 to 18% cap rate is a joke. Ask them to break down in a report with numbers how they came to that evaluation. Ought to be really interesting to see the math at work.............. : )

Account Closed · Answer

@Ryan Davidson  I agree with all the other posters here.  Cap rate is junk.  Also don't be concerned about the 2% rule or the 1% rule or any other rules.  Those rules are meant to be there for people who are learning their ABC's.  Value is based on the cash flows a project will be able to generate.  Period.  How is the 2% rule going to tell you that?  At the end of the day, how much money are you going to make with your $500k investment and are you going to be happy with it and do you have enough cushion if something doesn't go out the way you plan it to go.  Because all investors answer that question differently, the value is in the eye of the beholder.  Focus on analyzing the deal and see if it makes sense for you.

Matt Moreland · Answer

Ryan--

Something to remember about cap rate is that it is not an "end-all be-all" ratio. It is simply a means of allowing us to more easily compare properties whether they are similar or not based on the value created per dollar spent on a property.

Rather than thinking of it as a return, it is good to think of it as the point at which the capital and space markets intersect. If the net present value of an investment makes since to you but the cap rate is different than what you would expect, don't immediately push it aside. For example: you have two investment opportunities, A & B, that cost $1M and $500,000 respectively. You could have a lower than average cap rate on A, but higher NPV than B. This would make the lower cap rate option a more desirable investment in terms of wealth maximization, even if the cap rate is below the market average.

Good luck!

Hadar Orkibi · Answer

I second @Derek Dombeck, once you analyses enough deals you will see that although Cap rates are used to appraised properties often the REAL proforma can show different results. Some 8 Cap buildings can generate high cash flow and high DSR while other will be lower DSR and less cash-flow.  the Cash on Cash return and the Debt Servicing Ratio are the main things I look at first.  if the DSR is to low you could potentially struggle to obtain finance.

Cap rate? What’s your thoughts?

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