What is net operating income, and why does it decide what you offer on a warehouse? On this episode of the Property Management Series, Abe takes a real warehouse listing in Hialeah to the whiteboard and calls it overpriced. He starts with the asking price, builds the gross income, takes out the operating expenses to reach the NOI, and divides the NOI by the price to find the cap rate. Then he runs the same math in reverse to find an offer price. If you are learning commercial real estate, this is one of the quickest ways to check a deal. Here is how each step works.
Start with the asking price
Every analysis on the board starts with what the seller wants. Abe writes the asking price at the top before anything else, because every number that follows gets measured against it. The listing is a warehouse in Hialeah with a tenant in place, and his read from the very first line of the episode is that it is overpriced, with a very low cap rate. The rest of the episode shows how he gets to that call. It takes two things from the listing, the price and the income, and one division. Nothing else is needed for a first look.
Gross income, operating expenses and the net operating income formula
Next comes gross income: all the rent coming in before a single expense is paid. Then the operating expenses come off, the costs of owning and running the building, such as the property taxes. What is left is the NOI, or net operating income. That is the whole net operating income formula: gross income minus operating expenses. It is the number every other step on the board depends on, so it is worth getting right before anything is divided. The catch, as Abe explains next, is that the NOI on a listing is the seller's number, and it does not always survive a sale.
Why the NOI can change: check the lease
The NOI is only as good as the lease behind it. Abe names the lease types a commercial tenant can sign: triple net, double net, net, modified gross and gross. Each one decides who carries which expenses, the tenant or the landlord. We cover what a triple net lease is on a real building in another episode. On this warehouse, the tenant reimburses the landlord for expenses today. The question is whether that reimbursement grows when the expenses do, or whether it stays at what both sides agreed when the lease was signed. If it stays, the tenant does not pay anything more, and every increase belongs to the owner.
The tax bill resets when you buy
This is where knowing how to calculate net operating income on paper meets the real world. In Florida, the property tax bill resets to the new value when a property sells. An owner who bought at a lower price pays taxes on that lower value, so the expense line on the listing looks light. Buy at today's price and the taxes are figured on what you paid, and insurance can go up too. If the lease does not pass the increase to the tenant, it comes straight out of the NOI. That is why Abe says to read the lease before you trust the NOI. The expenses on a listing describe the seller's ownership, not yours.
How to calculate a cap rate: NOI divided by price
With an NOI you believe, the cap rate is one division: NOI divided by the price. On this listing the answer comes out low, which is the heart of Abe's call that the warehouse is overpriced. The lower the cap rate, the more you are paying for the same NOI. It is a quick first screen, not the whole story, but it tells you fast whether an asking price deserves a closer look. You can run the same math with our cap calculator, and we ran it on three Fort Myers warehouses on The Route.
Work it backwards: NOI divided by the cap rate you want
Then Abe flips it. Say you do not know the purchase price. Take the NOI and divide it by the cap rate you want, and the answer is your offer price. It is one of the simplest ways to value commercial property: the building is worth what its NOI supports at the cap rate you need. The same math works when an owner names a cap rate instead of a price. Divide the NOI by the cap rate the owner is willing to accept and you know what they are really asking. That is how you figure out a purchase price before any offer goes out.