What Is Good About Net Operating Income?

What Is Good About NOI?
Video Transcription

Speaker 1: Welcome back. Get excited, guys. We’re going to talk a little bit today about the… We’re going to build off the topic we talked about last weekend, cash flow, so by doing another whiteboard. So last time we figured out that cash flow in a business is income minus expenses. Now, cash flow in the real estate is income minus expenses minus a debt payment. Let’s say you have a loan on that property. Obviously if you own it cash, then you don’t worry about that calculation. You don’t have to worry about the debt payment.

Now, the next question is what is good about NOI or what is good about net operating income or what is it? I told you I was going to let you know in real estate what is income minus expense? Well, in real estate, if income minus expenses minus debt is cash flow, then what’s this? We’re going to talk about that. We’re going to talk about what’s called NOI, net operating income. NOI, net operating income.

You’re probably asking, “What is good about NOI or what is good about net operating income?” Well, when you get into multi-family properties, let’s say you get into any property that has more than four units. Here’s a good little tidbit for you. Any property that is four units or below is still classified, is technically classified as residential, like single family. Not single family residential, but it is a residential property. So what that means is that if I want to buy a duplex, this has really no bearing on it, the net operating income, like we’re going to explain it in a second. Basically if I am I’m looking to buy a duplex, it is going to be based the same way or priced or valued the same way as if I was buying a single family home.

Now, go back to our online, our ARV calculator post, which I’ll put a little link down here for you. We did that a couple of weeks ago. That’s going to give you an idea for what I’m talking about, because when they’re finding the value of the house, they’re looking at comparables.

Anyway, moving on from there. So what is good about NOI? So net operating income is how they value multi-family properties. All right. So let’s say I got a property and let’s say it’s got four units. Each unit, let’s say it’s being rented for 650 a month. So 650 a month. I’m totally bad at math. 24, so 25 … No. 2,600. Ha. 26. I did it in my head. Get excited. So that’s going to give you $2,600 a month of gross income. So this is gross income, gross rents.

So now what we need to do is we need to subtract out what we pay in expenses. Let’s say for this property we’re paying about $2,000 worth of expenses. Actually, let’s do this. Let’s do $1,600 of expenses per month. So we’re going to do that math, because I am math illiterate and I’m not very good at it. So what we have here is we have … And this is per month, by the way. I should probably erase it to make it easier, but whatever. So what we have is $1,000 a month of income before we pay the debt payment. So 1000, of what that is is that is the NOI, or the net operating income. I’m not going to write it. You already know this. [inaudible 00:03:50], net operating income.

What is good about this? Why is this number even here? Why is it alive? Well, basically here’s how it goes. These numbers right here, all of this is based on the property, when they’re valuing your property and looking to give you a loan on it or if you’re selling. This is you. The loan that you get is based on you, your credit, your business, your whatever. But the property performs in a certain way, and so what they do when we’re valuing your property, we’re actually going to say, okay, $1,000 a month of cash flow, like of net operating income. They’re actually going to do a calculation, which we can talk about later, that’s going to give them the value of the property.

This is also a really good gauge for how your property is performing. If this is really low, probably not a good thing. If it’s really high, probably a really good thing. But also, you’re able to look inside and go a little deeper. Let’s say you had a couple of expenses that were a lot higher than your other expenses or maybe on a year over year basis you’re seeing, wow, the trash fee is going absolutely bananas, but everything else is kind of staying the same. Well, then you’re able to, the NOI will tell you, “Hey, there’s something you need to look at.” Then you go back and you look a little deeper and find that issue and fix it.

So anyway, net operating income. What is good about net operating income or what is good about NOI? It’s the fact that it’s used to value the property and gives you a looking glass or a seeing glass? I don’t know. I just read Alice In Wonderland with my daughter last night. Love that book. Through the looking glass. Yeah, yeah. That’s it. So through the looking glass. But anyway, and it gives you a looking glass into the property and its performance, and that is how you’re going to value properties when it comes to you selling it or you buying it.

So anyway, if you guys have any questions, shoot them to me. Glad to help out, but I hope this helps you guys understand what is good about net operating income.

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