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capitalization rate

   Also found in: Wikipedia 0.03 sec.
Capitalization Rate
According to the Appraisal Institute, it is a method used to convert an estimate of a single year's income expectancy into an indication of value in one direct step, by dividing the income estimate by an appropriate rate.

Notes:
Also known as the cap rate. The relationship between Cap Rate (R), Income (I), and Estimated Value (V) is as follows:

V = I / R
I = V x R
R = I / V


Capitalization rate
The interest rate used to calculate the present value of a number of future payments.

capitalization rate
The rate used to convert an income stream into a present value lump sum. For example, a capitalization rate of 10% and an income stream of $2,000 annually provide a present value of $2,000/0.1 , or $20,000. The capitalization rate for a particular flow of income is a function of the rate of interest on Treasury bills (the risk-free rate) and the risk associated with the flow of income. A riskier investment has a higher capitalization rate and, therefore, a lower present value.

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The transaction occurred at a capitalization rate of 5.
The theoretically correct calculation of the capitalization rate for historical earnings is determined by the formula: (discount rate - growth)/(1 + growth).
CPA/ABVs must identify a normalized net cash flow from operations and apply a discount or capitalization rate that reflects associated risk.
 
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