Short Term Rental Cap Rates cash flow and potential sale value

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Short Term Rental Cap Rates cash flow and potential sale value

Manley Seale
Member since 2021 · 23 posts · 5 votes

So, i'm trying to analyze cap rates for a STR investment and I'm coming up with two different lenses to view a cap rate.

1. Annual Cash Flow potential from what I'm seeing would want to see a higher cap rate. Is that correct? 

2. Sale potential would want a lower cap rate if you were trying to determine the potential Sale Value. Is that correct? 

Example-

1. Annual Cash Flow potential- NOI = 100,000. Property bought for 1,000,000. Cap rate = 100,000/1,000,000= 10%

  • Now let's say cash flow was 150k. 150,000/1,000,000 = 15%

2. Sale potential- NOI = 100,000. Don't know the property value. Let's say the average cap rate is 10. 100,000/.10 = $1,000,000 sale value

  • now let's say the average cap rate is 15 for the sake of argument and similar to above = 100,000/.15= $666,666
  • Now lets say the average cap rate is 8. 100,000/.08 = $1,250,000. 

So as you can see the lower the cap rate the higher the potential sale value assuming the same NOI is used. But the higher the cap rate divided by the original invested amount actually produces higher cash flow.

I am just putting this out there to see if what I'm saying is making sense. Also, if is does make sense, would anyone with STR property in the AL Coast or FL panhandle care to share what cap rates they are seeing for cash flow and then for potential sale value?

Thanks!

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Jeffery Wilen
Rental Property Investor · Vancouver, WA · Member since 2017 · 182 posts · 115 votes
5y

As stated by Hal, unless your doing STR with a 5plex or larger it is the CMA that determines sales price no it cap rate.

Only a commercial property, ie the 5plex or larger, uses cap rate for valuation. Then the NOI does determine the sales price. Like a CMA, cap rates are market driven, not arbitrary. They're influenced by the property type, location and other items that would reflect the typical "risk" of investing in the property. Generally speaking, the higher the perceived risk for the investment, the higher the cap rate.

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  • Collin HaysBusiness Member
    Property Manager · Gatlinburg, TN · Member since 2020 · 3k+ posts · 4k+ votes
    5y

    I'm not sure if I understand.  

    Certainly, a seller might tie the sales price as a multiple to CAP rate, or not. It's not quite like apartment building. There are a lot of other things that go into the perceived value of a property to me, other than the CAP rate.

    There are many moving parts and factors when valuating in a vacation rental; simply looking at the current CAP rate is only one indicator of investment value.

    [email protected]806-672-7102
    SMOKY MOUNTAIN FALLS INC.51 Review
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  • Hal Wilkerson
    Rental Property Investor · Oahu Hawaii · Member since 2021 · 21 posts · 29 votes
    5y

    Manley, in my opinion, you should calculate the CAP rate, based on forecasted or actual annual income divided by the last sale price of the property. Not comps for future sale. The CAP rate is the CAP rate. Don't over think it. IRR is another variable you can use to get performance metrics/forecasts over 5 years, but generally, annual income divided by purchase price is enough to get a good idea how the property is performing. You can also back out debt service as well to see how it's performing if it is a leveraged acquisition. From a sales perspective i.e. to determine a sale price of the property, just use comps. I've got a couple of spreadsheets I can send you as well for both all cash investments as well as leveraged purchases if you'd like them. They show CAP rate and IRR. Happy to share.

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  • Manley Seale
    OP
    Member since 2021 · 23 posts · 5 votes
    5y

    @Collin HaysI totally agree that a cap rate is just one indicator and there are several different ways that should be considered when evaluating a Short Term Rental or really any property for that matter. But I am just curious on the cap rate indicator for cash flow versus the cap rate indicator for sale value. They are both similar equations, but in the sale value you are trying to determine the potential value when you goto sale. Where as the cash flow equation uses the initial purchase price. So for example, I buy a property for 1,000,000. It cash flows a NOI of 100k a year producing a cap rate of 10. Now lets say 10 years later I want to sale it. Well it probably has appreciated in value but I don't know what that is. So one indicator would be a cap rate. Now in this case I want to see a lower cap rate, in this equation. So, let's say instead of 10 being the cap rate, 10 years later these properties are selling at a cap rate of 8. So, I take my NOI, (should probably be higher then 100k since presumably I've gotten better at renting the property and increased rent and occupancy, but I will use 100k just for simplicity) 100k/.08= $1,250,000. My property that I bought for 1,000,000 now has a potential to sale for 1,250,000. Again just one indicator and there are several other ways to determine property value. I'm just curious what others have done or are doing

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  • Collin HaysBusiness Member
    Property Manager · Gatlinburg, TN · Member since 2020 · 3k+ posts · 4k+ votes
    5y

    that one is above my paygrade, but I am sure others can chime in.

    [email protected]806-672-7102
    SMOKY MOUNTAIN FALLS INC.51 Review
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  • Manley Seale
    OP
    Member since 2021 · 23 posts · 5 votes
    5y

    @Hal Wilkerson, yes I would love to see your calculators. I'll be leveraging my money so not all cash. I agree with your assessment as well, but are STR's generally valued the same way as Single Family primary homes, or is the annual income considered when placing a value on it? I know commercial multi family LTR are value based on the NOI and the cap rate for similar properties. So, I was just thinking out loud about STR's. Appreciate all the feedback!

    1Reply
  • Hal Wilkerson
    Rental Property Investor · Oahu Hawaii · Member since 2021 · 21 posts · 29 votes
    5y

    Sale Prices on Residential Single Family Homes or Condos are not typically driven by their income. They are driven by comparative market analysis based on comparisons to equivalent properties within a mile or two geographically, or more depending on a few factors. Namely, recent sales of equivalent sized units and other factors. Square Footage and Bed/Bath count are the most popular comparative factors. A Realtor worth his or her salt, helping you acquire a residential property will help you with these. STR's just happen to be residential homes/condos that produce income. It is a growing/changing segment that we may see standards develop, but today, if you are making an acquisition, you're going to have it priced based on those factors. Income can certainly be one of them, but generally, it doesn't cause 2 equal units to be priced differently. It's basically just a bonus if you are able to STR the unit, vs if the other unit isn't if that makes sense. Message me your email I'll send you my spreadsheets.

    1Reply
  • Jeffery Wilen
    Rental Property Investor · Vancouver, WA · Member since 2017 · 182 posts · 115 votes
    5y

    As stated by Hal, unless your doing STR with a 5plex or larger it is the CMA that determines sales price no it cap rate.

    Only a commercial property, ie the 5plex or larger, uses cap rate for valuation. Then the NOI does determine the sales price. Like a CMA, cap rates are market driven, not arbitrary. They're influenced by the property type, location and other items that would reflect the typical "risk" of investing in the property. Generally speaking, the higher the perceived risk for the investment, the higher the cap rate.

    2Reply
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