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How do you evaluate commercial real estate?

Updated: Apr 30

There is a rumor around the city that you need to be an accountant with a League degree to assess and analyze office buildings, retail centers, and apartment complexes. Don’t believe the hype. We know that you can count and do basic calculations; you will have no trouble determining your cash flow and the investment return is commercial property.

This tool will help you understand what a commercial property is worth without sophisticated calculations and worksheets. As a professional, you will discover a very quick method for analyzing a building and a shopping center. This section also explains how to distinguish between a good deal and a bad deal and provides invaluable investment guidelines to help prevent bad properties from finding their way into your portfolio, which is guaranteed.

Develop an in-depth understanding of the terms that equalizes the rules of the game. If you can speak their language, you instantly gain credibility and an advantage in the relationship over someone without your knowledge and comprehension. Just by enhancing your speech power, you gain confidence, which allows you to make sound, effective investment decisions and gives you an enhanced ability to maintain your position, particularly in negotiations.

Here are the words you should know to navigate through this chapter and make the presentation:

· Capitalization rate. Your capitalization rate is your net operating earnings divided by the sale price. Also called the capitalization rate, it is the measure of the return on investment. The limit rates tell you how much you would earn on investment if you paid all the money for its financing and the tax is not included:

Cap rate = net operating income ÷ sales price

· Cash Flow. Your annual cash flow corresponds to net income from operations minus debt service. You can also calculate monthly cash flow by splitting your annual cash flow by 12:

Annual cash flow = net operating income - debt service.

Monthly cash flow = annual cash flow ÷ 12

· Cash Yield. To find your cash yield, divide your yearly cash flow by the down payment amount:

Cash-on-cash return = annual cash flow ÷ down payment

· Debt amortization is determined by multiplying your monthly mortgage amount by 12 months:

Debt service = monthly mortgage amount * 12

· Actual gross income. You can find your actual gross income by subtracting the vacant position from the gross income:

Effective gross income = income (vacancy rate % * income)

· Gross income. Gross income is your total income, including rent, laundry or vending machine income, and late charges. This may be monthly or yearly.

· Net Operating Income (NOI). Your net operating income represents your actual gross income with fewer operating expenses:

Net operating income = effective gross income - operating expenses

· Mix. When a business investor says, "Which is the mix?" They ask how many studios, one-bedroom, or two-bedrooms the property has.

· Operating expenses. Your annual operational expenses generally include taxes, insurance, utilities, management fees, payroll, landscaping, maintenance, supplies, and repairs. This class excludes mortgage payments and interest charges.

· Vacancy. A vacant position is an unoccupied unit that does not generate income. A vacated and rented dwelling in the same month is not considered vacant; it is a rotation.

· Vacancy rate. Your vacancy rate corresponds to the number of vacant positions divided by the number of units:

Vacancy rate = number of vacancies ÷ number of units

The capitalization rate, cash flow, cash yield, and net operating income are investment terms but what do they mean to you as an investor? Below is a detailed explanation:

· Capitalization rate:

A ceiling rate is used to measure a property's return without considering mortgage financing. If you paid all the money for the investment, what would he make? How are your expenditures performing? Capitalization is an industry-wide standard, and it's used in several ways. For example, a high capitalization rate is usually associated with a higher-risk investment and a low selling price. Investments with high capitalization rates are generally located in low-income regions. A low cap rate typically characterizes a low-risk investment and a high selling price. Low capitalization rates are usually found in high-income areas of the middle class. Therefore, neighborhoods in towns have their assigned ceiling rate "stamped" on them. However, if you know the net operating income and capitalization rate, you can estimate the selling price:

Sales price = NOI ÷ cap rate.

For example, if the NOI is $ 57,230 and you want to make investments into a percent cap property, the price you’ll offer will be $817, 571 (57,230/7%). It's a good way to price your first offer. It's at least a point of departure.

· Cash flow:

Positive cash flow is king, and this is one of your major investment goals. Positive cash flow creates and sustains the momentum of your investments. When purchasing an apartment building containing more than five units, a bank's loan base is the property's cash capacity. Your credit rating is less important than cash flow potential. An apartment building with a low cash flow is almost always valued. Finally, a positive cash flow allows you to sleep overnight when the value of the property drops because your bills and mortgage will still be paid.

· Cash-on-cash return:

This is the velocity of your money. In other words, how long does it take before your deposit is returned to you? If you had a down payment of $20,000, how long would it take for your monthly cash flow to reach $20,000? If your cash flow was $20,000 over the course of a year, your cash-on-cash return would be 100 percent. If it takes a couple of years, your cash-on-cash would be 50 percent. If it goes on for three years, it would be 33%.

Investing in commercial property can generate phenomenal returns. Cash-on-cash yields over 100 percent are not uncommon. Now, if you had to go to your local bank and put $20,000 in their most aggressive CD investment for one to three years, what kind of cash performance might you expect? Maybe a percent or a quarter of a percent chance? You need to focus on cash-on-cash performance when you're just investing because you need to know how fast you and your investors can recover the down payment so that everybody can invest it again — and still, in future cases, you will find.

· Net operating income (NOI):

That's one of the most important words when you're looking at an agreement. Net operating income is the amount that stays once you have collected all your income and paid your operating expenses. This amount is used for payment of the mortgage. And what remains after you pay the mortgage is what goes into your pocket—your cash flow. Always keep an eye on the NOI and look for ways to increase it by increasing rents or cutting spending. As your net operating income rises, so does your property's value. If you are in a neighborhood with an 8% limit, for every $100 that the net operating income increases, the value of your home will increase by $1,250. Is that a good return on your investment or something?

Cap rate = NOI ÷ sales price, but you also can flip the calculation: sales price (or value) = NOI ÷ cap rate. Therefore, you can figure out a new value by dividing your new NOI or increase of NOI by the going cap rate. So, $100 ÷ 8 percent $1,250. Now, if you can increase your NOI by $20,000, your property value will have gone up by $250,000 ($20,000 ÷ 8 percent = $250,000).

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