EGIM as a Predictor of Cap Rates
There’s a relationship between EGI and cap rate, expressed by the following formula:
(1 - Expense Ratio) / EGIM = Cap Rate
If you’re not sure what the cap rate should be, you can use a range of EGIMs from sales in your neighborhood to derive a range of cap rates and see if the appraiser’s selected cap is within a reasonable range. Assuming EGIMs range between 7.5 and 8.5, as in Bill’s market, the cap-rate range would be:
- (1 - .35) / 7.5 = 8.7%
- (1 - .35) / 7.7 = 8.4%
- (1 - .35) / 8.0 = 8.1%
- (1 - .35) / 8.2 = 7.9%
This exercise indicates that if the EGIM is based on local sales, and the operating expense ratios were taken into account when calculating the EGIM range, the appropriate cap rate would range between 7.9 percent and 8.7 percent, all else being equal.
In Bill’s case, we concluded the appraiser was too conservative on the estimate of EGI. We also concluded the cap rate of 9.5 used in the appraisal was well outside the indicted range.
Get a Ballpark Estimate
The use of an EGIM is no substitute for having a compete appraisal, but if performed properly and with good data, it can provide a ballpark estimate facility value based on something other than the owner’s bias. An EGIM also allows for a fairness check on the appraiser’s cap rate. It’s important to compare apples to apples, and ensure the multiplier is applied to an estimate of EGI that reflects the facility’s historical performance trend.
The EGIM technique is just another tool, not a substitute for conducting a full appraisal. However, it does provide a logical starting point for a discussion of value that’s not just opinion-based.
Charles Ray Wilson is the founder of Self Storage Data Services Inc., an independent research firm that maintains the nation’s largest database of self-storage operating statistics. He is an internationally recognized leader in providing independent research on the self-storage industry. For more information, visit www.ssdata.net.