This is the One Metric Every New Real Estate Investor Must Know

by | BiggerPockets.com

In recent posts, I’ve broken down the importance of knowing your numbers—especially if you’re a new investor just starting out. And yes, while this may be the most important metric for young landlords to master, your net operating income (NOI) is your bread and butter.

Related: 5 of Your Most Burning Questions About Cap Rate, NOI & More—Answered

Whether you’re looking at a new deal or managing an existing one, your NOI’s your bottom line. It’s your indicator of asset value. It’s what lets you know, ultimately, whether you have a good deal on your hands or not.

Here’s a 68-second breakdown of NOI and why it matters.

Related: Am I Missing Something, or Is Real Estate Investing Really Not That Hard?

Hopefully now you have a better understanding of NOI and why it’s so important for investors to understand. But if you have any outstanding questions, ask them in the comments below.

Do you have anything else to add about the importance of understanding your NOI?

Share your ideas below!

About Author

Philip Michael

Philip Michael is a real estate developer, bestselling author, and washed-up soccer player. Before getting into real estate, he used to talk boxing on SiriusXM and Fuse. He’s also the former national editor/content strategy director at Bisnow leading up to the company’s $50M sale. Check out his blog WealthLAB here.

9 Comments

  1. Michael P. Lindekugel

    there are inherent problem is relying solely on NOI and capitalization rate for a Go or No Go decision analysis. NOI is not the bottom line. below NOI are other accounting deductions and tax treatment items to calculate Net Income on the statement of operations (sometimes called an income statement or profit and loss statement) which is the bottom line. but, NI is not what matters. its cash flow. all ROI calculations use cash flow including IRR, MIRR, NPV, and CAPM. the problem with NOI and capitalization rate is that you can have a high capitalization and a low IRR because the accounting and tax treatment below NOI to calculate NI and cashflow. without reviewing the IRR you have a false positive Go decision to acquire the asset. similarly you can have a low capitalization and a high IRR. without reviewing the IRR you have a false negative NoGo decision to acquire the asset. Capitalization rate is an index only meaningful when compared to the other data points in the study. capitalization rate has nothing to do with ROI. Two nearly identical properties can have similar capitalization rates and very different IRR.

    I see bad investment decisions on a regular basis because the real estate broker and investor did not perform the necessary financial due diligence exercise to calculate the IRR and NPV.

    • Philip Michael

      Hey Mike — thanks for reading! Those are all great insights and very, very high level. If you peep the title of the article, it’s deliberately designed for the NEW investors who are getting introduced to the concept of real estate finance.

      Sure, we can discuss equity multiples, NPV, IRR and sensitivity analysis till the cows come home (if they don’t die from BOREDOM before), but they aren’t really relevant here. For new investors, this is a starting point.

      Clearly you have experience in the more high-level aspect of real estate, and your info is super valuable. However you also have to tailor the message and lesson to the audience. Most are just starting to develop a curiosity to real estate. Throwing around insider jargon does nothing but lose them.

      Again, I appreciate you checking out my post and I really value your feedback. I would just implore you to also consider the audience. Throwing around high powered acronyms only confuses, discourages and makes this whole game seem super esoteric which it really is not.

      That’s the reason I created the video the way I did—to bridge the gap and the disconnect between jargon and everyday chatter.

      That said, you are absolutely right in a lot of the things you say. Thanks again, Michael!

      • Michael P. Lindekugel

        i should have spelled them out. my bad. no martini.

        Basic statement of operations with modified cash flow statement are below. All ROI calculations involve discounted cash flow techniques which use the Time Value of Money (TVM). You have to calculate cash flow.

        Gross Scheduled Income (GSI)
        -Vacancy & Credit Losses
        = Net Rental Income

        +Other Income (parking, storage, laundry, etc)
        = Gross Operating Income (GOI)

        Operating Expenses (OpEx)
        -Advertising
        -Auto and travel
        -Cleaning and maintenance
        -Commissions
        -Insurance
        -Legal and other professional fees
        -Management fees
        -Repairs
        -Supplies
        -Property taxes
        -Utilities
        -Reserves
        -Other
        = Total Operating Expenses (OpEx)

        =Net Operating Income (NOI) = GOI – OpEx

        -Interest-First Mortgage
        -Interest-Second Mortgage
        -Cost Recovery-Improvements
        -Cost Recovery-Personal Property
        -Loan Costs Amortization
        = Income

        -Tax Liability (Savings) at 28%
        = Net Income (NI)

        Cash flow
        NOI
        -Annual Debt Service (principal and interest)
        = Cash Flow Before Tax (CFBT)
        -Tax Liability (Savings) at 28%
        = Cash Flow After Tax (CFAT)

    • Philip Michael

      Those abbreviations are really overkill for the purpose of this article. This article was written considering an audience of new investors getting familiar with basic metrics of real estate finance. Don’t let that alarm you.

      Those terminologies are more prominent when you get to the private equity level, utilizing sophisticated return metrics to satisfy investors who gauge investments on such things. If you check out my piece on how to raise money, you’ll see that I presented a memorandum to an investor with all of these indignant terms and they honestly didn’t care. Half they didn’t know.

      And guess what: This is a long-time landlord who owns BLOCKS in Bed Stuy Brooklyn. Yes, those are real finance terms but don’t let it scare you if you don’t know them yet. Or ever will.

      Thanks for reading!

      • Michael P. Lindekugel

        the financial statements and financial analysis are the same regardless of the asset type. they are wholly applicable at every level. therefore, labeling overkill is just another example unrealistically oversimplifying financial due diligence. if an investor fails to understand IRR on their first duplex, then how do they know its a good investment? you can only get lucky so long. owning real property and earning high rates of return are not the same thing.

        this is not meant to scare anyone. its meant to point out some of what financial due diligence is. during the Great Recession financially distressed investors small and big facing foreclosure and bankruptcy sought me out to help with foreclosure avoidance strategies. they consistently had the same story. they didn’t understand financial due diligence. nearly all of them believed capitalization rate was a measure of ROI. i am seeing history repeat itself.

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