In multifamily (and business in general) we often want to know the net operating income (NOI) of a property. The NOI is a useful metric for a few different reasons which we will explore in today's article. Fortunately, it is a simple concept to understand although its implications are incredibly powerful.
What is NOI?
The net operating income of a property is actually easy to calculate. It is simply the gross income of the property subtracted by the operating expenses of the property. The gross income on the property being the net gross income and not the potential gross income and the expenses including all operating expenses, insurance, taxes, etc. but not the debt service cost of the property.
Why is it Useful?
The net operating income is a useful metric because it allows one to compare the performance of a given property without the variable of debt involved. Debt structure is the final large deciding factor when looking at the financial performance of a multifamily property, but the challenge of using cash flow or IRR is that it clouds the baseline of the properties performance when it comes to income and expenses. It is for this same reason that CAP rate (NOI divided by the properties value) is used when discussing pricing of properties in a given market. It too decouples the property's performance from any type of leverage. For a multifamily investor looking to determine the value of their property, they can simply research the going CAP rate for their type of property in its location and then calculate the value using their current NOI. The ability to implement a business plan which will increase the NOI of a property and therefore the value is often called forced appreciation and is one of the fundamental reasons why commercial multifamily real estate provides such a great opportunity for investment.
There are many important considerations when evaluating a multifamily deal and we make it our mission to careful vet each of these items. If you would like to learn more about passively investing in multifamily, please set up a meeting with us through our Calendly link and subscribe to our weekly blog here.