Calculating the ROI of Commercial Real Estate

Calculating the return on investment (ROI) of commercial real estate is an essential step in evaluating the potential profitability of an investment. This is calculated as the net income generated by the investment divided by the total amount invested.

The net income generated by the CRE investment is typically the annual rental income minus the expenses associated with owning and managing the property, such as property taxes, maintenance costs, and insurance. The total amount invested includes the purchase price of the property and any additional costs, such as financing costs and closing costs.

The Steps to Calculating the ROI

To find the ROI of a commercial real estate investment, there are various steps to follow:

1. Determine the Net Operating Income (NOI) The first step in calculating ROI is to determine the net operating income (NOI) of the property. NOI is calculated by subtracting all operating expenses from the total rental income generated by the property. For example, if a commercial property generates $200,000 in rental income and has $50,000 in operating expenses, the NOI would be $150,000.

2. Calculate the Total Investment – This includes not only the purchase price but also any additional costs, such as financing costs, closing costs, and any improvements made to the property. For example, if the purchase price of the property is $1 million, and there are $50,000 in closing costs and $100,000 in improvements made to the property, the total investment would be $1.15 million.

3. Determine the Cap Rate – The cap rate is a ratio that compares the NOI to the total value of the property. It’s calculated by dividing the NOI by the property value, and it compares the profitability of different investment properties.

4. Calculate the Cash-on-Cash Return – This is a measure of the annual return on the cash invested in the property. It’s calculated by dividing the annual cash flow generated by the property by the total cash invested. 

5. Step 5: Calculate the ROI – Finally, the ROI can be calculated by dividing the net income generated by the investment (NOI) by the total amount invested. 

Other Factors to Consider When Calculating the ROI of a Commercial Real Estate Investment

It’s important to keep in mind the other variables that affect the ROI and understand the reasoning behind the number. Here are some factors to consider:

  • Financing costs: The cost of financing the investment can impact the ROI, as higher interest rates or fees can reduce the net income generated by the property.
  • Vacancy rates: Higher vacancy rates may lead to lower rental income and reduced NOI.
  • Maintenance costs: Maintenance costs may impact the ROI and reduce the net income generated by the property.
  • Market conditions: Prevailing market conditions often impact the ROI, as changes in the local economy or real estate market affect the demand for commercial properties and rental rates.

Although this knowledge is certainly helpful in the commercial real estate industry, working with an experienced real estate agent or broker is helpful in navigating the complexities of the market and identifying the best investment opportunities.

Plaza Companies is the Premier Choice of Commercial Real Estate

Plaza Companies is a full-service real estate firm specializing in the leasing, management, construction, and development of some of the most innovative commercial real estate projects in Arizona. 

Plaza Companies is successfully competitive in the commercial real estate space while remaining compliant with all accessibility needs as a top priority along with all other legal obligations.  Our firm specializes in staying connected and conscientious of all emerging trends and laws.

Contact us today to learn more about leasing the right space or anything else we offer!

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