May 26, 2020  
 
Gaebler.com is a daily online magazine covering small business news. We help entrepreneurs transform ideas and innovations into greatness.

Articles for Entrepreneurs

 

Real Estate Articles

 

How to Build a Real Estate Pro Forma

Written by Brent Pace for Gaebler Ventures

In order to evaluate your real estate decisions you need to make a pro forma. Using a spreadsheet program, such as Microsoft's Excel, you can create a simple pro forma to analyze your revenues, expenses, and returns for any real estate project.

As you embark on your entrepreneurial quest, you will have to make several real estate decisions along the way.
(article continues below)

The best way to evaluate these decisions, and make the correct decision, is to make a pro forma. A pro forma will help you to evaluate if you are making the most prudent financial decision for your company.

What Is A Pro Forma?

A pro forma is usually a spreadsheet that depicts the revenues, expenses, and returns that you can expect from a particular project. It is called a pro forma because it typically has some assumptions built into it. Whether you are dealing with revenues or expenses, often times you will not have real accurate data to rely on. Running a pro forma with some sensitivity analysis will help you make a good decision based on the best projections you can make.

Revenues

The top few lines of your pro forma should constitute a revenue section. For a typical property you may wish to consider all of the following items:

Gross Rental Receipts This line item includes rent from leases and other contracted revenue.

Vacancy and Credit Loss Typically you will include a deduction here that accounts for the likelihood that some tenants will vacate before schedule and others will not pay on time or not pay at all. This item typically totals 5 to 10% of gross rental receipts in many office and multi-family properties.

Other Income This item could include interest on security deposits, profits from any other side businesses in the property such as vending machines or laundry machines, or payments from a cell phone provider who puts a cell tower on your property.

Expense recoveries If you recover expenses from tenants you may wish to account for it here in the revenue section. You could also account for it in the expense category as a negative number.

Revenue Adjustments as you create your assumption for the current year and subsequent years, you may want to include an adjustment for inflation, cost of living, or consumer price index adjustments.

Total Revenue will be equal to the sum of all the revenue lines above it.

Operating Expenses

A property can have any number of expenses. These can include, but are not limited to:

Basic operating expenses

Property taxes

Insurance

Window washing

Repair and maintenance supplies

Paint and wall covering

HVAC repair and maintenance

Property Manager overhead

Fire and life safety updates

Pest control

Landscaping

Parking lot maintenance

Electricity

Water

Sewer

General repairs and maintenance

A sum of all the items above will yield your total operating expense. Please note that these operating expenses include property tax but do not include income tax. This is especially relevant for situations when the property is owned by different individuals jointly. Income tax will always come below the line. In addition, debt service is not included as an expense.

Net Operating Income

Net operating income (NOI) is simply the revenues less the expenses. This number is a simple calculation, but is very important for determining the profitability of your project.

Below The Line Expenses

Once you figure out NOI you need to remember that leasing commissions, tenant improvements, capital reserves, debt service (both principal and interest), and other costs are below the line.

Cash Flow

To get cash flow you take your net operating income and subtract all of your below-the-line expenses. Next, simply discount your cash flows back by your opportunity cost of capital to determine if your real estate project has a positive net present value (NPV). Keep in mind that this is still a before tax return.

Brent Pace is currently an MBA candidate at University of California at Berkeley. Originally from Salt Lake City, Brent's experience is in commercial real estate development and management. Brent will have tips for small business owners as they negotiate their real estate needs.

Related Articles

Want to learn more about this topic? If so, you will enjoy these articles:

Buying an Office Building
Government Approvals for Real Estate


Conversation Board

We greatly appreciate any advice you can provide on this topic. Please contribute your insights on this topic so others can benefit.

Antonio Gamero 11/19/2009

Thank you for the break down of a pro forma. This actually simplified a whole bunch of confusing thoughts I had. Question: does GRM, LTV, Debt coverage ratio, breakeven point, expense ration, etc. need to be part of the pro forma?

Ken Gaebler 11/19/2009

Antonio, it's a good idea to generate those financial metrics as part of creating a pro forma. The metrics are a sanity check on the overall financials. As to whether you include those metrics in the final pro forma, it depends on who it is going to. But, we recommend that you absolutely calculate the metrics for your own business planning purposes.


Questions, Comments, Tips, and Advice  Code Image - Please contact webmaster if you have problems seeing this image code
Problem Viewing Image
Load New Code

 

 

Additional Resources for Entrepreneurs

Search Engine Marketing

Social Marketing Optimization

Business Forms

Business in the Jungle - Business in Fiction - Negotiating

Radio Ad Costs

Newspaper Advertising Rates

City-Specific Resources for Entrepreneurs

Small Business Insurance

Global Entrepreneurship

China & Entrepreneurs