People overcomplicate deal analysis. There is really one formula that drives everything in multifamily, and once you understand it, you can look at any property and know both what it is worth and how to make it worth more.
I have a full eight-number screening checklist for running any small multifamily deal in under 20 minutes in the fast and simple way to analyze multi-family deals. This article is narrower on purpose. It walks one real deal through the single formula that everything else in that checklist is built to protect, so you can see exactly how it works before you ever open a spreadsheet.
The Formula: Value Equals NOI Divided by Cap Rate
Net operating income, or NOI, is your operating income minus your operating expenses, before debt service. Rent and other income come in, you subtract the real costs of running the property (taxes, insurance, utilities, management, maintenance), and what is left before the mortgage is your NOI.
Value = NOI / cap rate
If a property produces $98,000 of NOI in a market with a 7 percent cap rate, it is worth about $1.4 million ($98,000 divided by 0.07). That is the whole game. Improve the NOI, and the value goes up on a multiple. Your cash flow, separately, is just NOI minus your annual debt service.
Walk One Deal Through It: a 12-Unit Example
Say you are looking at a 12-unit building listed at $1.35 million. Here is how the numbers actually build.
Start with gross potential rent: every unit at market rent, fully occupied. The units are currently renting at $775, but comparable units in the area rent for $1,100. Twelve units at $1,100 is $158,400 a year in gross potential rent, a much bigger income base than what the seller is currently collecting.
Add other income. This is the extra layer beyond rent: pet rent, storage, parking, and utility bill-back (often called RUBS) at around $100 per unit per month. On this 12-unit, that adds about $14,400 a year.
Subtract vacancy, and use two kinds. Physical vacancy is the market vacancy plus any units you plan to hold empty for renovation. Economic vacancy is tenants who are occupying but not paying. Using 6 percent market vacancy, 8 percent for a one-unit-a-month renovation schedule, and 3 percent economic, that is 17 percent total. Gross operating income is market rent plus other income, minus that vacancy, which comes out to roughly $143,300.
Now the expenses. Operating expenses run 30 to 50 percent of gross operating income on most multifamily, and 35 to 40 percent on smaller properties. Pull the real numbers from the T-12, and treat anything well under that range as a red flag rather than good news. If a seller's numbers show expenses at 25 percent of revenue, they are hiding something. Ask what they left out. At 38 percent on this deal, expenses run about $54,450, leaving a proforma NOI of roughly $88,850.
Run the formula at a 7 percent cap rate: $88,850 divided by 0.07 is about $1.27 million. That is what the property is worth once you have executed the plan, close to the $1.35 million asking price, which tells you the deal only works if you can actually close the rent gap.
Current NOI vs Proforma NOI Is the Whole Opportunity
That is why I underwrite two NOI numbers on every deal, not one. The current NOI is what the property actually produces today, based on the historical financials, usually the trailing 12-month P&L. On this 12-unit, at the existing $775 rents, current NOI lands closer to $58,000, which values the property at only about $828,000 at the same 7 percent cap.
The gap between $58,000 current and $88,850 proforma, roughly $30,850 a year, is the entire opportunity. Close it and the property is worth $440,000 more than it is today, on paper, for the cost of getting rents to market. That gap is also exactly what a bank will not lend against on day one; you have to prove it with signed leases before it counts toward your next refinance.
Why the Same NOI Also Sets Your Down Payment
NOI does not just set value. It sets your financing, because it drives your debt service coverage ratio, or DSCR, how many times your NOI covers your loan payment. A typical lender wants at least 1.2 to 1.25, meaning the property has to produce $1.20 to $1.25 of NOI for every $1.00 of annual debt payment.
If your annual loan payment on this deal is $80,000, a lender wants to see at least $96,000 to $100,000 in NOI to hit that ratio. The current $58,000 NOI does not clear it, so you either put more money down to shrink the loan payment, or you underwrite the deal on proforma numbers and negotiate seller financing or a bridge loan to bridge the gap until rents catch up. A stronger NOI cuts both ways: it raises what the property is worth and lowers what you have to bring to closing.
Hold It to Real Metrics
I do not buy on value alone. Two return targets have to clear before I move forward. I want cash flow of at least $200 per door per month, which is $2,400 per unit per year. And I want a stabilized cash-on-cash return of 10 percent or better.
Run your own numbers fast with the deal analysis calculator, which turns a price and rent roll into cash flow, cash-on-cash, cap rate, and NOI instantly. Then use those numbers to decide if a deal like this one even clears your buy box before you spend more time on it. The full six-criteria buy box I use to filter deals in the first place is in how to underwrite a multifamily deal.
Analysis is a muscle, and this formula is the one to internalize first. Everything else, vacancy assumptions, expense ratios, DSCR minimums, exists to protect the honesty of that single number. Get NOI right, run the division, and you know both what a property is worth and exactly how to make it worth more. For the deeper training and worked case studies, come find us at Addicted to ROI.
This article is educational and reflects my own experience. It isn't legal, tax, or financial advice. Run your own numbers and consult the right professionals before acting.
