A property operating statement typically presents the cash inflows and cash outflows from operations as well as and cash flows that are not strictly operational such as debt service, capital expenditures and income tax payments. According to Greer and Farrell a typical property operating statement should include the following:
Potential Gross Income
- Vacancy and rent loss allowance
+ Other Income
=Effective Gross Income
- Operating Expenses (see note below)
= Net Operating Income
- Debt Service
= Before Tax Cash Flow
- Income Tax Liability
= After Tax Cash Flow
Note that:
1. Potential Gross Rental Income is the income that the property can produce if it is fully occupied
2. The Operating Expenses are entered into the statement analytically as below:
a. Maintenance and repair
b. Insurance
c. Utility expenses
d. Management fees
e. Property taxes
f. Payroll
g. Security
h. Supplies
i. Advertising
j. Replacement allowance (for any required periodic replacements of equipment or other items)
3. The Debt service refers to the annual payments required to repay any mortgage loans for which the property serves as security. Such loans are usually taken by the owner for acquiring the property.
Constructing the Current Property Operating Income Statement
According to Greer and Farrell (1992) constructing a reliable current operating statement for a particular property requires verification of all records pertaining to the income and operating expenses of the property by inspecting original source documents and by comparing the reported operating results of the property with available results for comparable properties in the vicinity or neighborhood of the property under consideration.
In terms of determining the gross potential income of the property the investor or his/her consultants need to examine the property’s rent roll and leases in order to record the contract rate for each lease, the yearly review date, any escalation clauses, and any concessions that may result to reductions in payable rent compared to the contract rate. Analysis of all rental contracts pertaining to the property will also help identify current vacancies of the property.
The rents quoted in the lease contracts pertaining to the property need to be compared against the market rent levels prevailing in the neighborhood. The rationale of this comparison is to evaluate whether they are significantly above or below such levels and assess the feasibility or necessity to adjust the current rental levels charged in the property upwards on downwards (when these leases expire) in order to match the prevailing rent levels in the neighborhood.
In order to estimate the operating expenses of the property the investor needs to look at the immediate and past experience of the particular property and compare it against the experience of other comparable properties in the local market.
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Return from Property Operating Statement to Property Investment Analysis
