Net operating income (NOI)
Gross rents plus other income (parking, laundry, storage), minus vacancy and credit loss, minus operating expenses: property tax, insurance, utilities the owner pays, repairs and maintenance, management, landscaping, trash. NOI excludes mortgage payments, income tax, depreciation, and capital expenditures (a new roof is capex, not an operating expense — but a smart buyer still reserves for it).
| Line | Example |
|---|---|
| Gross scheduled rent (12 units × $2,000 × 12) | $288,000 |
| Other income | $6,000 |
| Vacancy & credit loss (5% of $294,000) | −$14,700 |
| Operating expenses (taxes, insurance, utilities, repairs, management…) | −$112,000 |
| NOI | $167,300 |
Illustrative numbers only. Two people can look at the same building and produce different NOIs — the seller's pro forma often shows lower vacancy, no management fee, and last year's tax bill; the buyer's underwriting uses market vacancy, a management fee even if self-managed, and the property-tax bill after Prop 13 reassessment to the purchase price. In California that last item alone can move NOI by five figures.
Cap rate
Cap rate = NOI ÷ purchase price. $167,300 of NOI on a $3,000,000 price is a 5.6% cap. It's the yield you'd earn with no loan, and it lets you compare buildings of different sizes. Higher cap rates generally go with more risk or weaker locations; lower cap rates with stability and growth expectations. Two cautions: (1) the cap rate is only as honest as the NOI behind it — always rebuild NOI yourself; (2) “market cap rate” varies by property type, submarket, and rate environment, so ask your agent what recent sales in the specific area traded at rather than trusting a listing's advertised number.
Gross rent multiplier (GRM)
GRM = price ÷ gross annual rent. $3,000,000 ÷ $288,000 = 10.4. It ignores expenses entirely, which is exactly why it's only a screen: two buildings with the same GRM can have very different NOIs if one has master-metered utilities or deferred maintenance. Use it to sort a list, then underwrite the survivors.
Where the numbers mislead
- Pro forma vs. actual. “Pro forma cap rate” means if rents were at market. Underwrite actual, then decide what you'd pay for the upside.
- Rent-controlled units. Below-market rents you can't raise quickly are the actual income — not the “market rent” column.
- Reassessment. The seller's tax line is not your tax line. Recompute at your price (roughly 1.1–1.25% effective, plus any special assessments).
- Insurance. Quotes have moved sharply in parts of California — get a real quote during due diligence, not last year's premium.
- Debt. Cap rate says nothing about your loan. Cash-on-cash return and DSCR (NOI ÷ annual debt service; lenders commonly want about 1.20–1.25×) are what tell you whether the deal carries itself.