Managing a rental property includes more than just keeping the building occupied and in good repair. Property owners need to know if their investment is performing well financially and determine when to make changes. Key performance indicators (KPIs) help rental property owners evaluate their properties and increase their revenue and profitability. We’ve put together a list of the seven most important KPIs to help you measure, monitor, and manage your rental properties effectively.
Note: These metrics are geared toward residential units.
1) Cap Rate
The cap rate helps assess your profitability. This ratio compares the property’s income with the original capital invested. It shows the percentage of the investment’s value that is profit.
REI Hub has a cap rate report in the report center you can use to assess your portfolio or a specific property. But to calculate the cap rate manually, divide the net operating income by the asset value. You may use either the current or acquisition value.
Net Operating Income ÷ Asset Value = Cap Rate
The cap rate can also show you the number of years it will take to recover your initial investment. If your property has a 5 percent cap rate, it should take five years to recover your investment.
An ideal cap rate is between 5 and 10 percent. The higher the cap rate, the higher your risk is. Stable or larger markets have lower cap rates.
2) Cash-on-Cash Return
The cash-on-cash return (CoC) tells you how much money you’re earning off the cash you invested.
To calculate your CoC, you’ll need to know the property’s annual cash flow (after debt service) and the total cash you’ve invested (i.e., money down, repairs, etc.).
Annual Cash Flow (After Debt Service) ÷ Total Cash Invested = Cash-on-Cash Return
REI Hub’s report center includes a CoC report you can run to evaluate a particular property or your portfolio.
Don’t confuse CoC with cash flow, which is a dollar figure showing how much you have left after expenses. Your CoC shows you what kind of return you receive for the total amount invested (acquisition + additional equity investments). This metric is a percentage, and investors usually consider between 8 and 12 percent a good return.
CoC can help you determine the best way to finance a new investment. It’s handy for when you need to choose between potential investments, since it helps forecast returns when you expect capital investments. But it’s also good to check your CoC annually. Rent prices fluctuate, and you may need to adjust what you charge. CoC can help you evaluate when rent increases are necessary.
3) Debt Service Coverage Ratio
The debt service coverage ratio (DSCR) compares the available operating income to the service debt vs. your overall debt levels. This ratio can help you tell when the time is right to refinance your rental property. This ratio is most helpful when calculated annually, but you can adjust the formula to work with monthly or quarterly figures as well.
To calculate your DSCR, divide your net operating income by debt payments.
Net Operating Income ÷ Debt Payments = Debt Service Coverage Ratio
Lenders consider DSCR when they’re gauging your ability to repay them. A higher ratio makes it harder to qualify for financing and can lead to higher interest rates. For example, if you have a net operating income of $30,000, and your debt service is $16,000, your DSCR is 1.87. There isn’t an industry standard to define a “good” DSCR, but most lenders look for a DSCR of at least 1.25.
4) Operating Expense Ratio
The operating expense ratio (OER) measures profitability. This ratio shows how well you’re controlling expenses relative to income.
You can use REI Hub’s built-in OER report to evaluate your full portfolio or a specific property. But to calculate your OER manually, divide all your operating expenses (including depreciation) by your operating income.
Operating Expenses ÷ Gross Operating Income = Operating Expense Ratio
If your portfolio’s properties are different sizes, such as single- and multifamily homes, this ratio lets you compare their profitability.
An ideal OER is between 60 and 80 percent, but the lower it is, the better. Watch your OER over time. If it’s rising, your property may have an issue. Maybe the rent hasn’t matched the increase in expenses. Or a maintenance problem that’s been put off has led to a more serious issue. You want your OER to stay the same or go down over time.
5) Operating Cash Flow
Your operating cash flow is the net cash left at the end of the month after you’ve received rent and paid operating expenses and serviced debt. REI Hub has several variations of cash flow reports, letting you analyze your properties multiple ways.
Rental Income – Operating Expenses – Debt Service = Operating Cash Flow
If your cash flow is negative, you may be spending too much on the property. Evaluate your costs or catch up on partial or missing rent payments.
6) Vacancy Rates
High vacancy rates reduce your properties’ gross income. We have two KPIs related to vacancy rates: physical and economic.
The physical vacancy rate is the percentage of your units that are vacant compared to the total units available. You can use this formula for your entire portfolio or a single property.
(Number of Vacant Units × 100) ÷ Total Number of Units = Physical Vacancy Rate
The economic vacancy rate accounts for the nonpayment of rents. If your property has tenants, but the tenants haven’t paid rent, then the property is economically vacant.
(Number of Vacant Units × 100) ÷ Total Number of Units = Economic Vacancy Rate
When you’re making financial projections, include a 10 percent vacancy buffer to make sure you can cover a property’s expenses even when units don’t have tenants.
7) Return on Investment
The return on investment (ROI) measures the profit you make on an investment compared to its original cost. If you’re new to real estate investing, then it may take some time before you see a positive ROI. But if you’ve chosen and managed your rental property wisely, then you should see a positive ROI within a calculated time frame.
To calculate your ROI, subtract all your expenditures (including debt payments) from your total earnings.
Total Earnings − All Expenditures and Loan Payments = Return on Investment
The ROI is the current total return, not to be confused with the internal rate of return’s annual return rate. Typically, a good ROI for rental property is between 8 and 12 percent or higher.
Takeaways
Rental properties are investments, so you must monitor them to make sure they are healthy. Key performance indicators help you evaluate your property’s performance. REI Hub’s built-in reports make it easy to measure your property’s profitability and revenue and decide when to make changes. By measuring, monitoring, and managing your rental properties effectively with KPIs, you can strengthen your real estate portfolio.
