Investment Measures, Part II

Investment Measures, Part II
By: Nicholas A. Dunlap

This is the second part of a series on measuring potential real estate investments prior to acquisition and understanding how to qualify and quantify your investments.  For additional information on investing in commercial or multifamily real estate, please click here to purchase my book “The Four Benefits: Commercial Real Estate Investing & You.” 

The Capitalization Rate

The Cap Rate is a more subjective measure in that to arrive at the Rate you must divide the Net Operating Income (NOI) by the Market Value of the asset.  Depending on the owner or operator, the expenses can be higher or lower depending on one’s standards for operation.  However, the Cap Rate is helpful in that it can help an investor quickly determine whether the use of financing will be favorable or unfavorable; whether the use of borrowed funds or leverage will result in a greater or lesser return to the investor.  Simply compare the Cap Rate to the Interest Rate on the Loan and you will be able to determine whether there is positive leverage based on the Interest Rate on borrowed funds being less than the Cap Rate whereas an Interest Rate above the Cap Rate will illustrate negative leverage and an unfavorable borrowing situation.  When purchasing, always strive for positive leverage.