Im still trying to figure out what cap rate means. If i have a mobile park with a cap of of 8.5% is that better or worse than a mobile park with a 17% cap rate…
is higher the rate the better ex(13% compared to 6.77%) or is lower the rate better…
thanks
Cap rate= Net Operating Income/Sales Price. Higher cap rate=more profit. Either raise the NOI or lower the sales price to increase the cap rate.
Depends if you are buying or selling! If you are buying, you want to buy one with a high cap rate as you will be paying less capital in relation to the cash flow being produced by the asset. An 8.5% cap rate means you are paying too much money for the property, in my opinion! Here is example:
$100,000 per year income generated by a property or an asset.
10% cap rate would mean the sales price is $1,000,000.00.
8.5% cap rate would mean the sales price is $1,176,470.59.
17% cap rate would mean the sales price is $588,235.29.
If you are buying, you want a high cap rate which will mean a lower price to purchase.
Hope this helps.
Rob
R.E. Investor/Mentor
A cap rate is essentially the rate of return you would receive on a property assuming you paid all cash for it ($100,000 NOI/$1,000,000 cash purchase price = 10%). That’s the simplest way I can tell you to look at it. It can be derived in many different ways. Be careful with using the terms ‘better’ or ‘worse’. For two properties equal in every way, a higher cap rate would be better, but don’t assume a higher rate means you should buy.
A higher cap rate (what you call ‘better’) usually means there’s a problem that you have to deal with. Managing a mobile home park is very unappealing to me so I would expect a higher cap rate than 8.5%, but I would bet there is a significant difference between those two properties in terms of overall quality and risk. The only high rates I’ve seen are for less desirable properties that need significant work or require intensive management, or the buyer was just in the right place at the right time and got a good deal.
I don’t understand the last statement on how a high cap rate means there is a problem somewhere. Please use an example.
A higher cap rate, assuming everything is accurately represented in the deal, GENERALLY indicates you’re paying a price that is lower than market value.
Are you going to buy prime real estate at higher or lower cap rates? Lower. Less risk, lower return. What about less desirable properties? Higher, because they probably need work and/or require intensive management. This is the just the surface of what different cap rates might indicate. You could buy a property at a high cap rate and sell it for a lower cap rate. Depends on the property and what you can do with it. Go look at some listings on loopnet and you’ll get a feel for what I’m talking about.
Isnt it industry standard to have a hi cap rate for faster return=paying off the loan faster? Plus as a long term investor you would want some head room to fix up the property in order to increase the value. Im a member on loop net and I guess it all depends on your financial goals and parameters for buying that would make you look at the cap rate in different wat. I’m still a bit confused on the comment tho…lol…but I’m assuming you flip property…which is not a bad thing either…but I like to buy at retail or below market value.
I’m not saying a high cap rate is bad. We all want to buy below market, and I am speaking from a commercial standpoint. I’m saying a high cap usually suggests an issue with the property that needs to be fixed or dealt with, which is fine with me. As an extreme example, a cap of 5% on a Walgreen’s vs. a cap of 18% on slum apartments. GENERALLY speaking, there is a direct correlation btw the quality of a property and the cap rate at which it sells. Or course, there are exceptions where quality properties are purchased at above average cap rates, which is obviously the most desirable situation.
My point was to compare the 8.5% vs 17% cap rates from the OP’s question as he was assuming the 17% cap rate was better simply because it was higher. You get what you pay for.
I’m not saying what I prefer or not prefer, I’m just trying to correct the OP’s perspective. We’re on the same page, I think you’re just missing my point.
Yea…ok…I got you now…Thats why its part of the due diligence to go look at the place with a appraiser and or rehab specialist to get thier valuation and then compare it to what they’re asking for after verifying the rent roll and etc. But…yea…hi cap rates does say good and bad things depending on the property. Thanks for clearing that up. What type of commercial property investing do you do? APTS or shopping center, buildings or what?