If you’ve gotten involved as a landlord or tenant with non-residential real estate, such as retail or office buildings, then you have probably encountered a phenomenon that may go by any of several names: expense recoveries, expense reimbursements, pass-throughs, or common area maintenance (CAM) charges. What exactly is this phenomenon and how does it work?
Expense recoveries (aka reimbursements or pass-throughs) serve as a customary ingredient in leases for non-residential property. In part 1 of this article, I discussed some of the typical ways such an arrangement might play out.
In Part 2 of our discussion of real estate expense recoveries, we looked at several different methods that property owners use to recover some of their operating costs from tenants:
I had a question recently about a metric called Yield on Cost, aka Return on Cost and also sometimes called Development Yield. So what is it and when and how might it be useful?
Users of our Real Estate Investment Analysis program sometimes call us with questions that are not about the software but about the underlying analysis. If we had a “greatest hits” list for those questions the all-time winner would be this: “My cash flow goes up each year; the value of the property goes up each year; but when I look at the Internal Rate of Return, it goes down almost every year. What’s up with that?” To see how this can happen, let’s take a look at two very simple examples.
Regression – no, it’s not what your family and friends accuse you of when you want to trade in the mini-van for a two-seater stick-shift convertible (well, maybe it is, but that’s a topic for a different article). If you’re familiar with our RealData software, my online video courses, and my other blog posts here, then you know that I’m usually talking about income-producing property like multi-family, retail, office, or the like — seldom about single-family homes. And when we estimate the value of most income properties, we typically do so by looking at their income stream.
From our experience, it appears that Internal Rate of Return (IRR) is the metric of choice for many, if not most, real estate investors. However, you may be aware that there are a few issues with IRR that can cause you some vexation: If you expect a negative cash flow at some point in the future, then the IRR computation may simply fail to come up with a unique result; and with your positive cash flows, IRR may be a bit too optimistic about the rate at which you can reinvest them. For these reasons, a variation on IRR, called Modified Internal Rate of Return (MIRR), can be very important. When you see how it works, then you’ll also see that it gives you the opportunity to deal with IRR’s shortcomings.
The rise of home-sharing platforms like Airbnb has been a boon to property owners, especially owners of smaller income properties, but it has also prompted municipalities to introduce regulations on short-term rentals (STRs). Many places impose restrictions, such as requiring permits or licensing, limiting occupancy, and restricting the number of days permitted.
We usually think of Return on Equity (ROE) as a straightforward investment measure. That’s understandable, because the traditional method of calculating ROE is pretty clear cut: Take your cash flow after taxes and divide it by your initial cash investment.
Inflation, interest rates, concerns about recession, pandemic-inspired work-style changes, taxes. There are enough wild cards in the deck to give any economic forecaster vertigo.
Not all real estate markets or all sectors are created equal, so to paraphrase an old TV auto ad, your mileage may vary. Nonetheless, we think it’s possible to make at least some reasonable and general forecasts about the near-term prospects for commercial real estate. Here is some of what we’re hearing, and thinking.