A property was purchased 5 years ago for S1 million and generated NOl of $70,000 in Year 1.The NOl will increase at 5% per annum. If the forward cap rate of the property has risen by 1% from7% to 8%, today compared to 5 years ago, what price would a potential buyer have to pay for theproperty now, if they used forward cap rates exclusively?
Question
A property was purchased 5 years ago for S1 million and generated NOl of $70,000 in Year 1.The NOl will increase at 5% per annum. If the forward cap rate of the property has risen by 1% from7% to 8%, today compared to 5 years ago, what price would a potential buyer have to pay for theproperty now, if they used forward cap rates exclusively?
Solution
First, let's calculate the Net Operating Income (NOI) for the current year (Year 5). The NOI in Year 1 was 70,000 * (1 + 0.05)^4 = $85,386.75. (We raise to the power of 4 because the increase happens at the end of each year, so after 5 years, the increase has happened 4 times.)
Next, let's calculate the price using the new cap rate. The cap rate has risen by 1% from 7% to 8%.
The price of a property is calculated as the NOI divided by the cap rate. So, the price a potential buyer would have to pay for the property now would be 1,067,334.38.
So, if a potential buyer used forward cap rates exclusively, they would have to pay approximately $1,067,334.38 for the property now.
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