In direct capitalization, what does the process use to estimate property value?

• A. Cap rate is used only in sales comparables and has no role in valuation.
• B. Direct capitalization uses stabilized NOI and a cap rate to estimate value; DCF uses projected cash flows with a discount rate to determine present value and exit value.
• C. Direct capitalization estimates property value using stabilized net operating income and a capitalization rate.
• D. Cap rate is the ratio of gross potential income to operating expenses.

Answer: (C)

Direct capitalization estimates value by converting stabilized net operating income into value using a capitalization rate. The stabilized NOI reflects the expected ongoing operating performance, and the cap rate represents the return investors require for that level of risk. By dividing stabilized NOI by the cap rate, you get an estimated property value at a single point in time. This differs from a discounted cash flow approach, which projects cash flows over multiple periods and discounts them to present value. Also, the cap rate is not the ratio of gross potential income to operating expenses—it's NOI divided by value, reflecting the relationship between income and value.