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The Cap Rate: A Key Metric for Commercial Real Estate Investors
The capitalization rate, or cap rate, is a common metric used in commercial real estate to evaluate the potential return on investment of a property.
It is calculated by dividing the property’s net operating income by its current market value.
For example, if a property has a net operating income of $100,000 per year and a market value of $1,000,000, its cap rate would be 10% ($100,000 / $1,000,000 = 0.10). This means that an investor who purchased the property for $1,000,000 could expect to earn a return of 10% on their investment each year.
Cap rates are useful for comparing the potential return on investment of different properties.
For example, if one property has a cap rate of 8% and another has a cap rate of 12%, the latter property would be considered a better investment because it offers a higher potential return.
Cap rates are also used to determine the value of a property. If an investor knows the cap rate they are targeting, they can use it to calculate the maximum price they are willing to pay for a property.
For example, if an investor is targeting a 10% cap rate and a property has a net operating income of $100,000 per year, they would be willing to pay a maximum of $1,000,000 for the property…
