When evaluating the operational strength of our properties, one of the key metrics I look at is NOI (Net Operating Income). A common misconception is that you have to maintain a very high occupancy to maximize your profit. While other multifamily property owners and operators look at occupancy levels as a barometer of how successful the property is performing, I prefer to focus on NOI. One of the key reasons is that occupancy levels can appear high, but they don’t necessarily reflect whether lower rent or other concessions were made in order to retain tenants - concessions that could adversely affect the property’s net income.
So, what is NOI? It’s calculated by taking the property’s total income and subtracting all operating expenses. The only exception on expenses is that NOI doesn’t include capital expenditures, which are one-time expenses such as roof repairs and HVAC replacement. NOI provides a key insight into the health of a property and also measures just how well costs are being managed.
As an example, a 100-unit property rents out at $1,000 per month. That means the property’s gross monthly income is $100,000. If the monthly expenses are calculated at $25,000, which includes staff salaries, utilities, maintenance including landscaping, painting, etc., the net operating income is $75,000.
Boosting Net Operating Income by Increasing Income
Our business model is to purchase Class B properties and perform value-add improvements in order to increase rents. This also helps to boost the NOI. Our goal of increasing NOI can be achieved in two ways. First, it can be done by increasing income, with higher rents, adding fees, and adding new services. Examples of new services include adding reserved parking spaces, installing in-unit washers and dryers, or offering valet trash service.
The other way to increase NOI is to decrease expenses. This can be achieved by reducing turnover costs when tenants move, reducing monthly expenses for recurring services, or by fighting property tax assessments.
The mistake many property owners make is to focus on pushing occupancy levels instead of focusing on boosting their NOI. The reasons for boosting occupancy include improving the property’s bottom line, and also improving the property’s reputation within the market, which could ultimately make leasing easier.
Here’s an example: If you own a property with 100 units renting at $1,000 per month, and you’re 100% occupied, your gross monthly income is $100,000. However, if only 95% of the units are occupied, the income drops to $95,000. However, in reality things can get more complicated.
If a property is 100% occupied, it generally means that rents are under market. Using the previous example, market rents could be $1,200. As fewer people can afford $1,200 per month compared to $1,000 per month rent, occupancy may drop to 95%. Income, however, increased to $114,000 vs. $100,000 at 100% occupancy with $1,000 monthly rents. That’s why the focus should be on boosting the NOI, not the occupancy.
Also, it doesn’t make financial sense to advertise if there are no units available. Most experts agree that 95% occupancy indicates a successful property, and the goal should be to have an equal balance between physical occupancy and rents in order to maximize your NOI. It is delicate balance, because while you want to reduce expenses as much as possible, you still want to be sure that the property is maintained in good condition. The key is to keep tenants happy in order to minimize turnover, so income doesn’t decrease.
Boosting Net Operating Income by Reducing Expenses
Reducing operating expenses is crucial in order to boost the NOI, because the lower the expenses, the higher the NOI. That’s why it pays to take advantage of every possible opportunity to lower expenses.