What’s A Cap Rate?

Cap rate is short for capitalization rate. Cap rates are a method to valuate property, typically commercial property.  Its the value given to a property when the Net Operating Income (NOI) is divided by the current market value, or sales price.  A cap rate can be used as a rough indicator of how quickly an investment will pay for itself.  Cap rates are also generally considered a rate of return on your investment.  If you are a buyer, the higher the cap rate, the better.  And vice-versa if you are a seller.

Here’s an example: A property has an NOI of $100,000, and the price is $1,000,000. The cap rate would be 10% ($100,000/$1,000,000 = 10%).  Based on this calculation, you would see a return in 10 years.

I have a sweet little formula, I call IRV, that makes the calculation easy to remember.  Call me and I’ll tell you how it works.

Cap rates in Sun Valley have traditionally been pretty low.  As in, sellers asking prices do not offer much of a return.  I chalk this up to the fact that typically around Sun Valley, properties have appreciated so much over time that cap rates are sometimes secondary in importance for investors.

However, cap rates on commercial properties in the valley have crept up to a point that some deals actually pencil out as an investment.  Most likely because we have motivated sellers these days who need to discount their properties in order to get them sold.