A commercial listing package for an income property usually leads with a price, a cap rate and a few headline numbers. Those figures are a starting point, not an answer. Here is how to read them, and what to verify before you rely on them when buying an office, retail, industrial or multifamily property in Houston.
Start with net operating income
Net operating income (NOI) is the property’s income, such as rent and other charges collected from tenants, minus its operating expenses, such as property taxes, insurance, maintenance, utilities and management. It does not include mortgage payments, depreciation or income taxes. Ask whether the number in the package is the actual NOI from the last 12 months or a “pro forma” projection based on assumptions, such as higher rents or lower vacancy.
What a cap rate tells you
The capitalization rate is NOI divided by the price. In a simple example, a building with $240,000 of annual NOI listed at $3,000,000 has a cap rate of 8.0%. A higher cap rate suggests more income per dollar of price, but it may also reflect more risk, such as older buildings, shorter leases or weaker tenants. Compare cap rates only among similar properties in similar locations, and remember that a cap rate is only as reliable as the NOI behind it.
What to verify
- The rent roll against the leases: check rents, expiration dates, renewal options and any concessions.
- Who pays what: in a triple-net (NNN) lease the tenant pays most property expenses, while in a gross lease the owner pays more. That changes both NOI and your risk.
- Tenant strength: how long the tenants have been there, how they pay and how much of the income depends on one or two of them.
- Operating expenses: ask for actual bills, including taxes, insurance and repairs, and compare them with the seller’s estimates.
- Property taxes: a new owner’s tax bill depends on the appraisal district’s value, not just the seller’s history, so ask your advisor what to expect.
- Condition and environmental risk: inspections, roof and mechanical age, flood exposure and, for some uses, an environmental assessment.
- Land use rules: Houston does not have a conventional zoning ordinance, so deed restrictions, city regulations and other rules matter. Have your attorney review them.
- Comparable sales: Texas does not require sale prices to be made public, so comparable sales often come from brokers and data services. An experienced commercial agent is especially useful here.
The right answer also depends on whether you plan to own, lease or invest, which our article on leasing or buying commercial space explores. Our Houston Commercial Real Estate Checklist collects the questions to ask, and our article on working with a commercial division explains what to expect from an agent. When you are ready, visit our Commercial page or contact the office.
Note: this article is general information, not investment, legal or tax advice, and the cap rate example is hypothetical. Photo: Ed Uthman, CC BY 3.0, via Wikimedia Commons.
