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The operating expense ratio (OER) is a crucial financial metric in multifamily property management. It measures the efficiency of a property’s operations by comparing the operating expenses to the property’s effective gross income (rental income minus vacancy). Understanding and effectively managing the OER is vital for a multitude of reasons which will be covered in this post.
1. Financial Performance Assessment and Underwriting: The OER allows property managers and investors to assess the financial performance of a multifamily property. By comparing operating expenses to rental income, it provides insight into whether the property is generating sufficient income to cover its operational costs. Over time, tracking the OER in a given market helps operators who are self-managing their apartments sharpen their underwriting when shopping for other deals in an area. PMs can calculate the per unit per year (PUPY) expenses of the properties they manage and apply them to like-kind properties in a market to see if expenses are high or vice versa. Remember, when expenses are high, there is an opportunity to increase the property’s profitability and therefore increase its value.
2. Budgeting and Planning: Property managers use the OER to budget for future expenses and make informed decisions about where to allocate resources. By identifying areas where expenses are high relative to income, managers can focus on cost-saving strategies and allocate funds more effectively. One simple value-added plan to decrease expenses involves installing high-efficiency toilets and shower heads to lower the water utility bill. Another common strategy is putting multiple properties underneath a master insurance plan to save on insurance costs. In terms of budgeting, a PM should know when fixed expenses (insurance, taxes, etc.) are due so that they don’t get caught in an emergency without capital or reserves. Additionally, while variable expenses (turnover, maintenance, etc.) are less predictable than fixed expenses, PMs should take a conservative approach at the beginning of a year by budgeting for slightly higher variable expenses due to inflation and the quality of the property.
3. Benchmarking & Investor Relations: Property managers can use the OER to compare the performance of their multifamily properties to industry benchmarks or similar properties in the same market. Investors and stakeholders often rely on the OER to gauge the efficiency and profitability of their multifamily investments. A low OER can lead to higher investor confidence and potentially attract additional investment capital.
Conclusion
In summary, the operating expense ratio is a critical tool in multifamily property management because it provides valuable insights into the financial health and efficiency of a property. By tracking and optimizing the OER, property managers can improve profitability, make informed decisions, and maintain the long-term success of the property.
If you have any questions regarding the terms and concepts in this post or previous ones, please reach out to either me (tedi.nati@jpacq.com) or someone on our team so we can help explain further. If you’re interested in investing with us at JP Acquisitions, you can contact us via email (contact@jpacq.com), LinkedIn, Instagram (jpacquisitions), or our investor portal to set up a meeting.
As always, I hope you enjoyed reading this post as much as I have writing it. Best of luck!
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About the Author
Tedi Nati is the Managing Partner of JP Acquisitions. In his role he is responsible for broker outreach, establishing deal flow, underwriting, marketing, and assisting in the closing process. In addition to his role at JP Acquisitions, he is an Assistant Equity Underwriter at Cinnaire, a non-profit Community Development Financial Institution (CFDI). In his role at Cinnaire, he is responsible for assisting the underwriting team in evaluating and structuring real estate equity investments and assessing the risks and mitigants associated with such. Tedi earned his Bachelor of Science in Finance from DePaul University, where he graduated Summa Cum Laude. In his free time he enjoys reading, looking for multifamily deals, and working out.
Make sure to always do your own research before making any final decisions on buying/investing real estate, stocks, or other securities. I am not a CPA, attorney, insurance, or financial adviser and the information in this blog post shall not be construed as tax, legal, insurance, construction, engineering, health and safety, electrical or financial advice. If stocks or companies are mentioned, I sometimes have an ownership interest in them – DO NOT make buying or selling decisions based on my posts alone. If you need such advice, please contact a qualified CPA, attorney, insurance agent, contractor/electrician/engineer/etc. or financial adviser.