CRE Investing Terminology

By Scout Real Estate

Four Essential Commercial Real Estate Terms For Investors

When working in commercial real estate, there are a few investing terms to familiarize yourself with that can influence decision making. Knowing what they mean, how to calculate them, and how to interpret these terms will teach you about your potential deal or the kind of investment you or your clients can afford. Luckily, these are simple calculations that anyone can do!  

We have compiled out top four investing terms that directly relate to commercial real estate strategy. 

To begin, we have Net Operating Income. Simply put, NOI is what the property makes minus expenses over any given time period (monthly, annually, etc). NOI = Revenue from the property - necessary operating expenses (costs required to run the building).  

Next, there is the Internal Rate of Return. IRR is a capital budgeting measurement that compares multiple possible projects a firm is considering on a relatively equal basis. Internal Rate of Return is the discount or interest rate that makes present value of all cash flows from a project equal to zero. In general, the higher IRR, the more profitable a project will.

Third, we have Cash on Cash Return, which is a calculation taking annual before-tax and dividing by the flow to the total amount of cash invested in the undertaking. The result is a percentage that is an easy way to measure the cash earned on the amount of money you have invested. Cash on Cash = Annual before tax cash flow / by total cash invested.  

Last, we have Capitalization Rate. In its simplest form, cap rate is used to estimate an investor's potential return by taking annual net operating income divided by price or market value. An investment expected to make $100,000 net income on a piece of property purchased for $1,000,000 has a cap rate of 10% ($100,000/$1,000,000). Stated another way, that same investment would make 10% profit each year. Capitalization Rate = Net Operating Income / Current Market Value.

In order to gain the most return out of a current or potential property, knowing these numbers can be life changing for a commercial property owners! 

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