Capitalisation rate
The capitalisation rate is the rate you use to convert future rental income into a present value when you value commercial property. The rule of thumb is that the market value equals net rent divided by the capitalisation rate: a higher rate gives a lower value, a lower rate gives a higher value. It captures the buyer's required return and the risk in the individual cash flow.
In practice the rate consists of a risk-free rate (often the ten-year government bond or the swap rate, see interest rate swap) plus a risk premium for the property market, the segment, the location and the specific tenant portfolio. Two buildings at the same address can therefore be valued with different capitalisation rates: a building let on a 12-year contract to a government tenant carries less risk than a building with a rolling mix of small tenants. The premium also reflects illiquidity: property cannot be sold the same day, and buyers require payment for capital being locked in.
In Norwegian brokerage practice, "kapitaliseringsrente" and yield are often used as synonyms, but they are not the same. Yield is an observed point-in-time return (net rent divided by purchase price) taken from actual transactions. The capitalisation rate is the discount rate you put into a valuation model, either in a simple direct capitalisation or as the exit yield at the end of a [discounted cash flow](./diskontert-kontantstrom.md). In practice the capitalisation rate leans heavily on observed yield levels from comparable sales; the analysts at brokerage houses such as Akershus Eiendom, Newsec and DNB Næringsmegling report quarterly yield curves per segment and location that the industry uses as a reference.
The rate is affected continuously by macro conditions: if the government bond rate rises by 100 basis points, the capitalisation rate will typically follow, and market values fall accordingly. The sensitivity is large; a shift from 5.0% to 5.5% capitalisation rate cuts the value of a given net rent by around 9%. Norwegian commercial property therefore lost significant value through 2022-2023 as rates rose, even though rents held up or increased.
To calculate correctly, the numerator and the denominator must match: if you use operations-based net rent (NOI) before capital costs and tax, the capitalisation rate must be a pre-tax rate. If you use contract rent minus operating costs, a vacancy deduction and normalised maintenance costs, the assumptions must be consistent with those built into the rate. Newer buildings in central areas with long contracts trade at the lowest rates (prime yield); older buildings, peripheral locations or a short remaining lease term attract a premium.
In practice the capitalisation rate is used in two variants: as a direct capitalisation rate in a simple direct model (market value ≈ NOI / rate) and as the exit yield at the end of a multi-year discounted cash flow model, where it assumes that the building will be sold at a future point in time. The exit yield is typically 25-50 basis points higher than today's prime rate, to reflect uncertainty about the market in 5-10 years. Which variant is used must always be specified in a valuation document, and the assumptions must be reproducible by the next analyst who picks up the figure.
In Placepoint you can compare tenants, remaining contract length and building standard from the property panel when you set the assumptions behind a valuation, so that the risk premium in the capitalisation rate can be justified against specific contract conditions rather than an industry average.
How this looks in Placepoint
In Placepoint you find this in Property panel - Units and Tenants:
From Placepoint's glossary: Capitalisation rate
More information: Eiendom Norge: Market reports, Akershus Eiendom: Market Report, Store norske leksikon: kapitalisering
English: Capitalisation rate (cap rate).
Common questions
What is the difference between the capitalisation rate and yield?
Yield is an observed return from actual transactions (net rent divided by price). The capitalisation rate is the discount rate you use in a valuation model. In practice the capitalisation rate is set on the basis of observed yield levels for comparable buildings.
How do I calculate the market value using the capitalisation rate?
The simplest model is direct capitalisation: market value ≈ net rent / capitalisation rate. A net rent of NOK 10 million at a 5.5% capitalisation rate gives a value of around NOK 182 million.
Why does the capitalisation rate vary between buildings?
The rate reflects the risk in the cash flow: location, the age and technical condition of the building, the tenant's creditworthiness, the remaining contract length and the segment (office, warehouse, retail). Lower risk gives a lower rate and a higher value.
Where do I find up-to-date capitalisation rates for Norway?
Eiendom Norge, Akershus Eiendom, Newsec and DNB Næringsmegling publish quarterly reports with yield curves per segment and location. The rate levels change with the government bond rate and market sentiment.