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Capitalization Rate Example

See Also:
Capitalization Rate
General Ledger Reconciliation and Analysis
Valuation Methods
Shareholders Equity
Planning Your Exit Strategy
Mergers and Acquisitions

Capitalization Rate Example

John started a real estate company in Indiana. His company has recently begun operations and is beginning to make money. John now wants to strengthen his business; to do this requires the best understanding of the company and it’s working environment. John wants to know the capitalization rate of his company as a whole. This includes net operating income and costs for the financials of the entity.

John speaks with his accountant and finds the data to calculate his capitalization rate. With this, he can find his answer.

Net income = $1,000,000 Cost = $250,000

Capitalization Rate = $100,000 / $250,000 = 4

John knows that his capitalization rate is 4. Next, he speaks with his accountant. He finds that, for this industry, John is doing fairly well for himself. He can use the net income, beyond cost of the bank loan he took, to pay down his loan and begin expanding the company on cash flow. This has immense benefits for both John’s growth and profit potential. John begins to compare the capitalization rate with the discount rate that banks take to create expectations for his next capital project.

He is very happy to hear this. John can now find out how he will use the money rather than worrying about what he will do to please his banker. With the future in sight, he can become a forward thinking business owner.

Conclusion of Capitalization Rate Example

By developing a better understanding about his company, John is more likely to be running a successful and profitable company. The capitalization rate is a good indicator of the overall capabilities of the company. By utilizing the capitalization rate, John now has the overall profits of the company compared with the overall costs of the company. The ratio created is useful for John because it shows that the overall profits of the company is four times that of the overall costs. As said above, John now knows that he can now concentrate on expenditures of money because his capitalization rate is so positive.

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capitalization rate example

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Capitalization Rate

See Also:
Capitalization Rate Example
Capitalization
Annual Percent Rate (APR)
Wage Rate
Currency Exchange Rates

Capitalization Rate Definition

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:

For example, the rate for hotels provides market knowledge about how well competitors pay for the capital they take.

Capitalization Rate Meaning

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.

Capitalization Rate Formula

Use the following simple capitalization rate formula to calculate CR. Remember, it can lead to great benefits.

CR = annual net operating income / cost

Calculation

Capitalization rate is processed, with the proper information, quite easily. See the following example for the capitalization rate calculation:

If:
Net income = $1,000,000
Cost = $250,000

Then:
CR = $100,000 / $250,000 = 4

Capitalization Rate and Business Valuation

Are you looking at utilizing capitalization rate as a valuation tool? When valuing a business, it is standard practice to consult with a valuation firm. Need help finding one? We will get you connected with one of our strategic partners for your valuation needs. Fill out the form below to get connected:

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Capitalization Rate Definition, Capitalization Rate Formula, Capitalization Rate

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Capitalization Rate Definition, Capitalization Rate Formula, Capitalization Rate

 

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