Video: CRE Expense Analysis
Video: CRE Expense Analysis
ARGUS Training Manager – Americas, Jessica Leal, shares her insight about operating expenses and how it affects commercial real estate valuations, and then she will walk through how this is modeled in ARGUS Enterprise. Watch the video or read the entire transcript below.
“CRE Expense Analysis,” Transcript
My name is Jessica Leal, the Training Manager for our Americas region. And today we’re going to talk about operating expenses in commercial real estate. Now we’ve done previous videos where we have discussed different methods of valuation, and we’ve talked about the role net operating income (NOI) plays in those methods’ evaluation. So, we have highlighted how important our NOI is well, our NOI is made up of two different components revenue minus expenses. And so today we’re really going to highlight how important it is to analyze and project expenses correctly when it comes to getting an accurate valuation of a property.
And so, this video is serving as a bit of a follow up to our Commercial Real Estate Expense Analysis, insights article that discusses some of the different critical components in valuating and projecting future NOI. Now today, of course, we’re focusing on operating expenses. But this is a great article to really cover some of the major operating expenses in a commercial real estate building. And it also discusses different types of operating expenses, such as fixed expenses and variable expenses. And so today, I really want to go into ARGUS Enterprise (AE) and let’s take a look at how to model fixed expenses versus variable expenses.
So, let’s go ahead. Let’s get into ARGUS Enterprise and let’s talk about operating expenses within AE. Once we are in ARGUS Enterprise. Let’s take a look at those operating expenses. So, I currently already have a property open and I’m and my expenses parent tab operating sub tab. Now your operating expenses are, of course, any expenses that you want above the NOI. And we know that because we just saw that formula when I was hovering over our insights article. And when we are entering in expenses, we can assign account numbers over here. So, you could see that I have different account numbers assigned and then we can go in and we can enter in the expense name.
We can choose our how input, which is simply our unit of measure. So how are we entering in this expense as a dollar amount as $1 per square foot. We have different dollars per square foot options or are we intruding on this expense as a percentage of another line item within ARGUS Enterprise. Once we choose our how input, for instance, the amount 1, which is just dollar amount, then we could come over here and enter in the amount of the expense. We can choose whether this is annually or monthly we’re going to leave. Ours is annually for now. And then we come right over here. And we can decide whether or not it is fixed or it is a portion of it is variable.
And so many of these expenses such as insurance and real estate taxes are typically entered in as a fixed amount. That’s not to say that these expenses never change over the years. But they’re not going to fluctuate as much as something like electricity or our water and sewer expenses. Those expenses are going to be considered variable. And that’s because they’re going to vary with our occupancy and what I mean by that is that if our building is completely occupied then our electricity expense is, of course, going to increase as is our water and sewer. However, if our building is less occupied. We are most likely going to see those expenses decrease. Now on the opposite end of that when our building is completely occupied there are certain expenses that are probably going to decrease such as marketing expenses because our building is completely occupied.
And so when it comes to modeling that you add in the expense turn in the amount of the expense at maximum occupancy and then you can say, well only 25% of this expense is fixed. So for instance electricity typically is not just completely variable, even if you had a vacant building you would still use some electricity. And so what we’re going to say for our example is that it is 25% fixed meaning that the other 75% of this expense is going to vary with our occupancy. And so let’s actually take a look at this in action in ARGUS Enterprise.
So if I have this expense set to 100% fixed and I go and I look at my property cash flow, we can see on the cash flow, that my electricity expense for year one is 185 565 which is the exact number that we have entered in. If I say that a portion of this is variable. So for instance, if I say it’s only 25% fixed and 75% of this expense is going to vary with our occupancy if I navigate right back over to my cash flow. And I look at that electricity expense. You can see that it is actually decreased. The reason it has done this is because, if I navigate to my audit reports and I run an occupancy report for year 1, well, we’re not 100% occupied in this building. We’re only 88%. So that expense is fluctuating with our occupancy.
Now that is actually all we have to show in this video. We hope you enjoyed it. And remember, if you have any questions or you would like additional training, please feel free to reach out and let us know. Thank you.