Key takeaways
- Start with verifiable income and normalized operating expenses, not the seller’s headline return.
- NOI and cap rate measure property performance before financing.
- DSCR and cash-on-cash return show how leverage changes risk and investor results.
- Tenant quality, lease rollover, capital needs, and market rent can matter more than the first-year cap rate.
Step 1: Build effective gross income
Begin with contractual rent and other recurring property income. Then adjust for vacancy, concessions, bad debt, downtime, and collection loss to estimate effective gross income.
- Verify the rent roll against leases and recent collections.
- Separate contractual rent from temporary reimbursements or one-time income.
- Review lease expiration dates, options, escalations, and tenant concentration.
Step 2: Normalize operating expenses
Debt service, depreciation, income taxes, and owner-specific financing costs are generally not included in NOI. However, a buyer must still model them when calculating actual cash flow and return on invested equity.
- Property taxes and realistic post-sale reassessment where applicable.
- Insurance based on current replacement cost and market conditions.
- Repairs, maintenance, utilities, management, administration, and service contracts.
- Replacement reserves or recurring capital needs when appropriate for the analysis.
Step 3: Calculate NOI and cap rate
Cap rate is useful for comparing unlevered income yield, but it does not capture loan terms, future rent growth, capital expenditures, lease rollover, or sale assumptions.
Core formulas
NOI = Effective Gross Income − Operating Expenses. Cap Rate = NOI ÷ Property Value.
Step 4: Add financing
- Calculate annual principal and interest using the actual term, amortization, and rate structure.
- Test DSCR using lender-normalized NOI and required debt service.
- Measure loan-to-value and loan-to-cost constraints.
- Model interest-only periods, balloon balances, and refinance risk.
Step 5: Measure investor returns
- Cash-on-cash return on total cash invested.
- Annual cash flow after debt service and reserves.
- Principal paydown and equity growth.
- Internal rate of return and equity multiple over the hold period.
- Sale proceeds after transaction costs and remaining loan payoff.
Stress-test what can break
- Vacancy increases or a major tenant does not renew.
- Insurance, taxes, utilities, or repairs rise faster than rent.
- Capital expenditures occur earlier than expected.
- Exit cap rate expands and reduces sale value.
- Refinancing is unavailable or more expensive at maturity.
Step 2 · Apply what you learned
Continue into a Professional Playbook
The guide explains the concept. The playbook turns it into a complete, documented workflow you can use on an actual client or investment assignment.
Step 3 · Test the actual transaction
Generate Deal Intelligence with Acqyrly
Enter the actual assumptions, compare scenarios, review decision metrics, and identify the questions that require better documentation.
Financing review
Need commercial real estate financing?
Use the Acqyrly financing workflow to request a review of the property, borrower, and proposed loan structure.