The capitalization rate (or “cap” rate) is one of the most important metrics for any investment in office buildings. It’s a short way of getting the return based on the purchase price and allows you to compare multiple properties to select the highest return. However, there are some important considerations in this area. During this time of COVID-19
What are you really paying for?
To calculate the upper limit, you first need to know how much you will be paying for the property. The total cost. What makes many buyers a disaster is that they fail to consider the essential elements of Cap-X after the sale, such as expensive repairs to roofs, elevators, or other critical infrastructure. This can significantly increase the overall cost of the effort and have a major impact on the cap. So you have to be realistic about what the total price will be.
What is the real net income?
Next, a net income is needed, which is essentially expected to be sales minus operating costs (but excluding depreciation). Again, many buyers screw up by not creating a realistic budget based on current events rather than future assumptions. Anything you can do to increase sales or reduce costs should come at the expense of your bottom line and profits from acquiring the business, not to hedge the purchase.
Divide the net income by the price
To find the maximum rate, divide the net income by the price paid. For example, if you buy a $ 1 million office building that generates net income of $ 100,000, the apportionment limit of $ 1,000,000 is $ 100,000, which is a 10% limit. It’s that simple: most people think it’s hard to calculate a maximum rate, but it isn’t. It’s only a fraction.
Identify other elements that can improve net income or reduce costs
What if the current maximum rate is not convincing? To see what can be done to increase net income or reduce total expenses. This includes renting vacant space, increasing rents on existing space, or reducing operating costs through greater energy efficiency. The bottom line is that this type of “best case” scenario is important in determining the “risk/reward” ratio of the market and seeing if it is worth the risk.
Hoods are a very important part of the office building analysis process. Now you know how to calculate it and what effect it has. These numbers can make a successful purchase for you.