There are currently plenty of experts in the Self Storage industry talking about its financial state. One of the most overused terms at the moment is ‘capitalisation (cap) rate’. But what is the cap rate, and how does it impact your Self Storage facility?
What is the cap rate?
The cap rate is “the rate of return on a real estate investment property based on the income that property is expected to generate. This metric is used to estimate the investor’s potential return on his or her investment“.
In other words, buyers and sellers put a certain value on a property, like a Self Storage facility, and one of the ways they generate this value is by using a cap rate that’s based on the facility’s net operating income (NOI).
What does this mean for Self Storage facilities?
For owners of a Self Storage facility, knowing your cap rate is essential. You can use the cap rate to determine the value of your facility, which can in turn help you to set the best unit prices.
How do you do this?
First, you need to calculate the NOI for your facility. This is easy; simply subtract the operating expenses away from your facility’s income. For example, say your facility has $100,000 in annual income, but your annual operating expenses are $40,000. This makes your NOI $60,000.
When you apply a cap rate to your NOI, you’re really asking the market this question: How much are buyers willing to pay for this $60,000 annual income?
It’s important you calculate the most accurate NOI possible, because an inaccurate number will drastically change the estimated value of your facility. Did you use the annual income for the last calendar year, the last financial year, or the trailing 12 months?
Many experts believe the most accurate NOI should be calculated with the trailing 12 months. The trailing 12 months are the last 12 months from whenever you’re determining the value. Using this year of data is a more accurate reflection of your NOI as it uses more current information. This creates a representation of the value of your facility now, rather than the value of your facility last year or two years ago.
How does this impact my unit prices?
After you’ve determined your current NOI and consulted an appraiser to learn the current market cap rate, you’ll have a better idea of the current financial value of your facility. You can use this knowledge to evaluate the current prices you’ve set for your units.
Do they match up? Do your unit prices accurately reflect the total value of your facility? This might lead you to realise your facility is actually more valuable than you thought, which means you might be able to increase your prices and your profits.
Taking a methodical approach to running your Self Storage facility can help you more accurately determine your potential value and set your unit prices. To learn more about running a Self Storage facility, view some of Self Storage Startup’s other articles today.