The Capitalization Rate definition is a formula which represents the difference between annual net operating income and cost of capital. Its use in the business world serves the main purpose of valuation, including the following:
Capitalization Rate (CR) means a method to understand how company operations help overcome the cost of capital. Knowing this leads to a piece of information for a company; that it can pay for the price of resources. Furthermore, this shows the value of any project a company chooses to begin. It is a general valuation tool. It is also supported by the use of other financial ratios depending on industry and specific needs. In conclusion, CR is a business valuation tool.
Use the following simple capitalization rate formula to calculate CR. Remember, it can lead to great benefits.
CR = annual net operating income / cost
Capitalization rate is processed, with the proper information, quite easily. See the following example for the capitalization rate calculation:
Net income = $1,000,000
Cost = $250,000
CR = $100,000 / $250,000 = 4
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