Significant of NOI margin for net leased properties

[musicgold1]

Hi,

I am trying to understand the meaning of the NOI margin in the context of an office or retail or industrial landlord.
I understand that NOI margin is very relevant for apartment properties which are gross leased and the revenue does not include any reimbursement of costs (generally).

On the other hand for most commercial properties,
revenue = net rent + reimbrusement of costs

So the NOI margin of such a builidng doesn't tell us any operating efficiency the landlord has been able to produce. How do you think of this issue ?

 

[Vernon Martin]

Perhaps semantics differ in Canada. American appraisers focus on OERs (operating expense ratios), which should equal 1 minus the NOI margin, eh?

As for net-leased properties, these are typically marketed and sold almost like corporate bonds to investors who don't care about expense ratios as long as the property is NNN-leased.

 

[CBBoston]

If I was investing in net leased properties, I might be concerned if the net charges back to the tenant for a property were significantly higher than the rest of the market. Most knowledgable tenants are comparing the total cost of occupancy not just the net rent.

 

[musicgold1]

Thanks folks.

American appraisers focus on OERs (operating expense ratios), which should equal 1 minus the NOI margin, eh?

"eh"


The OER is still a dervative of the NOI margin. Maybe an example will illustrate my point.

As far as I know, for commercial landlords,
Gross income = net rent + reimbursed expenses

NOI= gross income - operating expenses , or

NOI = net rent + reimbursed expenses - operating expenses

As almost all operating expenses (except leasing fees and non recoverable operating expenses) are reimbursed, NOI = net rent

So, if I am getting $1000 per month in net rent from a property and I spend $200 in operating expenses, which are reimbursed by the tenant, my gross income is $1200, but my NOI is $1000.
But I find it hard to accept that the NOI margin of the property is 83% or the OER is 17%.

If I was investing in net leased properties, I might be concerned if the net charges back to the tenant for a property were significantly higher than the rest of the market.

What is the best way to get the charge back rate for the market?

 

[Abester]

Investors don't care about phantom income. It does not matter how many times during the day you take the money out of your pocket and put it in your other pocket. At the end of the day, you make a certain amount of money, and you are either operating at market levels or you are not. A savy tenant will not overpay for NNN expenses, so out of kilter properties are subject to higher risk of turnover.

 

[Michael S]

We do a fair amount of single tenant NNN properties that have long term leases to national credit tenants. Generally they're either Absolute Net, NNN or NN. The absolute Net one's like Walgreen's means they're paying absolutely everything including the building structure and roof. Most NNN leases the landlord is responsible for the basic building structure but frankly on a brand new building very few investors are worried about the walls collapsing (and if they do, that's what insurance is for) It's the NN leases where the landlord has some maintenance responsibility (typically parking lot or HVAC, something that will likely require some capital outlay during the life of the lease) that things change a bit. Sometimes it's a reserve for replacements of $0.10-0.20 per square foot which is deducted from the income to arrive at a slightly lower NOI. Other times it's reflected with a cap rate that's 10-20 basis points higher. I've seen investors handle it both ways, but typically the former.

So bottom line the NOI is what it is and it typically includes no expenses, and no vacancy and collection loss (on a long term lease to a national credit tenant) The cap rate for an absolute Net vs. NNN might be slightly lower, but probably so little as to get lost in the noise. A NN vs. a NNN should either have a slightly higher cap rate to reflect the greater risk to the landlord of having to shell out some cash for whatever their repair and maintenance responsibility is, or an explicit expense deduction for reserves. Investors don't care about NNN expenses as that's all on the tenant. If the tenant wants to protest their taxes to try and get a lower amount, that's probably going to be on them. Frankly with a build to suit project I can't imagine the operating expenses would vary by that much except for the property taxes and utility costs. If Walgreen's wants to be a particular corner it doesn't really matter who develops it, the property taxes, insurance, utilities, etc. aren't really going to change.


As far as multi-tenant properties, you might have some tenants who negotiate their CAM charges below what they should actually be charged in which case either the landlord eats it, or tries to pass it on to the other tenants (who probably won't pay if if they've got a good lease) We just appraised a large shopping center and between all the different reimbursements from tenant to tenant the landlord was collecting about 85% of their total chargeable operating expenses. Mostly due to some of the anchors not paying increases in CAM or less than their fair share of property taxes.

Some clients have requested we show the reimbursements in the income and then cancel it out with the actual expenses, either way the NOI is the same and on a single-tenant NNN lease, that's all the typical investor is looking at.

 

[CBBoston]

Misicgold if you want to get an idea of what's typical, talk to brokers, investors, property managers (I assume IREM or the Canadia equivalent has data), tenants etc.

 

[musicgold1]

Thanks folks.