Real estate and construction
Cap rate (capitalization rate)
A property's net operating income divided by its value: its yield at today's price.
Last reviewedWhat does Cap rate (capitalization rate) mean?
The cap rate is NOI divided by a property's value or price. Turned around, value = NOI / cap rate, which is the quickest way to value an income-producing building. Example: a building with NOI of 7 million is worth about 127 million at a 5.5 percent cap rate, but about 108 million at 6.5 percent, a fall of about 15 percent from a 1 point rise. Cap rates tend to rise when interest rates rise, which is why property values fall when rates go up. Lower cap rates mean investors pay more for each unit of income, usually for safer or faster-growing properties.
Where does it come up in case interview prep?
- How construction and real estate work: who builds, who owns, who paysLesson in Construction, real estate and infrastructure
- Real estate economics and project delivery: margins, cap rates, overruns and PPPsLesson in Construction, real estate and infrastructure
- Construction and real estate players, trends 2024 to 2026, and how to crack the casesLesson in Construction, real estate and infrastructure
Related terms
- NOI (net operating income)A property's income after operating costs, before debt payments, depreciation and income tax.
- Valuation multipleValue as a multiple of a financial measure, based on similar companies.
- Discount rate and hurdle rateThe rate used to turn future cash into today's value.
- REIT (real estate investment trust)A company that owns income-producing property and pays out most of its income to investors.
- Loan-to-value (LTV)A loan as a share of the value of the property securing it.
- EPC contract (engineering, procurement and construction)A contract where one contractor designs, buys and builds a project and hands it over ready to run.
- Critical pathThe longest chain of dependent tasks in a project, which sets how fast it can finish.