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Calculating ROI: A look back at Beach Front Apartments

Here’s how we initially assessed Beach Front Apartments with more realistic expense estimates for a 45-unit property in Seal Beach:

• Purchase Price: $12 million
• Average Monthly Rent: $2,200 per unit (well below the Seal Beach market average of $2,600)
• Monthly Rental Income: $99,000 (due to low rents and high vacancy)
• Operating Expenses: $62,000/month, covering property taxes, maintenance, insurance, utilities, and property management.
• Property Taxes: 1.1% of purchase price (~$11,000/month or $132,000/year)
• Insurance: $3,000/month
• Maintenance & Repairs: $15,000/month
• Utilities: $5,000/month
• Property Management: 5.5% of revenue ($5,445/month)
• Vacancy Rate: 12% (5-6 units consistently vacant)
• Loan Terms: $9 million financed at 4.5% interest over 30 years

These numbers helped us begin calculating ROI for this investment property by first determining the Net Operating Income (NOI) and then the Cash-on-Cash Return.

Step 1: Calculate Net Operating Income (NOI)

Net Operating Income (NOI) is a key metric in evaluating rental property investments. It measures profitability before financing costs:

NOI = (Monthly Rental Income × 12) - (Annual Operating Expenses)

For Beach Front Apartments, we calculated:

NOI = ($99,000 × 12) - ($62,000 × 12) = $1,188,000 - $744,000 = $444,000/year

The property’s NOI of $444,000/year was well below its potential due to below-market rents and high vacancy rates. These numbers provided a clear picture of the improvements that could be made to increase profitability.

Step 2: Calculate Cash-on-Cash Return

Next, we calculated the Cash-on-Cash Return, which shows the efficiency of the owner’s cash investment:

Cash-on-Cash Return = (Annual Cash Flow / Cash Invested) × 100

With $3 million in equity (the difference between the purchase price and the loan), the cash-on-cash return was:

Cash-on-Cash Return = ($444,000 / $3,000,000) × 100 = 14.8%

While 14.8% isn’t bad, it showed there was room for significant improvement through strategic management and value-add efforts.

Cap Rate at Purchase vs. After Value-Add Work

One of the key metrics in real estate investment is the cap rate (capitalization rate), which shows the return on investment based on the property’s NOI and its purchase price. Here's how we calculated the cap rate for Beach Front Apartments:

Cap Rate at Purchase

At the time of purchase, with an NOI of $444,000 and a purchase price of $12 million, the cap rate was:

Cap Rate = ($444,000 / $12,000,000) × 100 = 3.7%

This 3.7% cap rate is typical of properties in desirable coastal markets like Seal Beach, where cap rates are often lower due to the premium on location.

Cap Rate After Value-Add Work

After implementing value-add strategies—such as raising rents, reducing vacancy rates, and cutting operating expenses—let's recalculate the cap rate based on an improved NOI.

Here are the new figures after the improvements:

• New Monthly Rental Income: $117,000 (with market rents of $2,600 per unit)
• New Operating Expenses: $60,000/month (due to cost efficiencies in maintenance and utilities)
• New NOI: ($117,000 × 12) - ($60,000 × 12) = $1,404,000 - $720,000 = $684,000/year

With an NOI of $684,000 after the improvements, the new cap rate was:

Cap Rate = ($684,000 / $12,000,000) × 100 = 5.7%

This increase from 3.7% to 5.7% demonstrated a significant improvement in the property’s profitability, making it a far more attractive investment in the market.

Improving the ROI: Coastline Equity’s Strategy for Beach Front Apartments

Using these calculations, Coastline Equity implemented a plan to improve the ROI for this rental property:

1. Address High Vacancy Rates: We improved the leasing process and implemented targeted marketing strategies to reduce the vacancy rate from 12% to just 3%. Filling those extra units increased the monthly rental income.
2. Raise Rents to Market Value: The property’s average rent was $2,200 per unit, well below the market rate for Seal Beach, which averaged $2,600. After updating some units and common areas, we gradually increased rents, raising total monthly income to $117,000.
3. Cut Operating Costs: By leveraging our network of trusted vendors and renegotiating service contracts, we reduced operating expenses from $62,000 to $60,000 per month.

Recalculating ROI: A New Financial Outlook

After making these improvements, we recalculated the real estate ROI using our investment calculator:

• New Monthly Rental Income: $117,000
• New Operating Expenses: $60,000
• New NOI: ($117,000 × 12) - ($60,000 × 12) = $1,404,000 - $720,000 = $684,000/year

This increase in Net Operating Income (NOI) boosted the property’s overall profitability. Let’s also revisit the Cash-on-Cash Return calculation:

Cash-on-Cash Return = ($684,000 / $3,000,000) × 100 = 22.8%

With these changes, the owner saw a 22.8% return on their cash investment—an impressive improvement driven by better management and strategic adjustments.

What’s a Good ROI for Real Estate Investors?

One of the most common questions from new investors is: “What is a good ROI in real estate?” While the answer varies depending on market conditions, a Cash-on-Cash Return of 8-12% is generally considered good. In this case, after implementing our strategies, Beach Front Apartments reached a 22.8% Cash-on-Cash Return, showing how proactive management can transform a property’s performance.

Key Takeaways for Calculating ROI on Rental Properties

1. Know Your Vacancy Rates: High vacancies can devastate your cash flows. By reducing vacancies and keeping occupancy high, you can maximize your rental income.
2. Monitor Your Operating Expenses: Keep a close eye on operating costs, including property tax, insurance, and maintenance, as they can significantly impact your Net Operating Income (NOI).
3. Regularly Review Your Rents: If your rents are below market, you’re leaving money on the table. By updating units and keeping up with the market, you can justify rent increases, which improve your cap rate and overall ROI.
4. Use the ROI Calculator: Running your numbers regularly through a rental property calculator allows you to keep track of how changes in closing costs, loan terms, and rents affect your returns.