Knowledge Base
Cap Rate (Capitalization Rate)
A cap rate (capitalization rate) is a property's net operating income divided by its market value, expressed as a percentage that represents the return an all-cash buyer would earn in the first year.
How cap rates work
The formula is NOI divided by value. A property producing $1 million of NOI, priced at $20 million, trades at a 5 percent cap rate. Run it in reverse and it becomes a valuation tool: value equals NOI divided by the cap rate. Cap rates move with interest rates, market risk, and asset quality — lower cap rates mean buyers accept less first-year yield, typically for newer assets in stronger markets. Two properties with identical NOI can carry very different values because the market caps them differently.
Why cap rates multiply expense savings
Because value is NOI divided by the cap rate, every recurring dollar of NOI is worth a multiple of itself: at a 5 percent cap rate, one dollar of annual savings adds twenty dollars of value. The arithmetic is why expense work punches above its weight. Stilwell's average finding of $22,546 in annual savings for a 200-unit property is, at that same 5 percent cap rate, roughly $450,000 of asset value — created by buying the same items at verified prices. The full savings-to-value math is worked through here.
Common mistakes
The cap rate is only as honest as the NOI beneath it. Underwriting on pro-forma NOI — projected rents, assumed expense cuts — buys tomorrow's hoped-for property at today's price. Comparing cap rates across markets or asset classes without adjusting for taxes, age, and expense structure misleads in both directions. And small NOI errors scale: at a 5 percent cap rate, an expense misclassification of $50,000 misstates value by $1 million. Verify the NOI first; the cap rate math is the easy part.
Related terms
Start with one property and one quarter
Send us a quarter of invoices and we will show you what it should have cost. If there is nothing there, we will tell you that too.
