Commercial Real Estate Glossary
Key terms and definitions for CRE investment analysis, underwriting, and property management — from NOI and cap rates to waterfall distributions and ML-powered forecasting.
Net Operating Income (NOI)
Total property revenue minus operating expenses, excluding debt service and capital expenditures. NOI is the foundation of commercial real estate valuation — it drives cap rate analysis, DSCR calculations, and DCF projections.
Capitalization Rate (Cap Rate)
NOI divided by property value (or purchase price). It represents the unlevered yield an investor would receive. Lower cap rates indicate higher-priced markets; higher cap rates indicate higher perceived risk or lower demand.
Discounted Cash Flow (DCF)
A valuation method that projects future cash flows over a hold period and discounts them back to present value using a discount rate. DCF analysis captures both the time value of money and the terminal (reversion) value at sale.
Internal Rate of Return (IRR)
The discount rate at which the net present value (NPV) of all cash flows equals zero. IRR accounts for the timing and magnitude of every cash flow — initial investment, operating income, and sale proceeds. Leveraged IRR includes debt; unleveraged IRR excludes it.
Net Present Value (NPV)
The sum of all future cash flows discounted to today at a chosen discount rate, minus the initial investment. A positive NPV indicates the investment exceeds the required return; negative NPV means it falls short.
Debt Service Coverage Ratio (DSCR)
NOI divided by annual debt service (principal + interest). A DSCR of 1.0x means the property barely covers its debt; most lenders require 1.20–1.25x minimum. Below 1.0x means negative cash flow.
Loan-to-Value Ratio (LTV)
Total loan balance divided by the property's appraised value. Higher LTV means more leverage and less equity cushion. Most commercial lenders cap LTV at 65–80% depending on property type and market conditions.
Cash-on-Cash Return
Annual pre-tax cash flow divided by total equity invested. Unlike IRR, cash-on-cash measures only a single year's return relative to equity — it does not account for appreciation, debt paydown, or timing.
Equity Multiple
Total distributions received divided by total equity invested over the life of the investment. An equity multiple of 2.0x means you doubled your money. Unlike IRR, it does not account for the time required to achieve returns.
Pro Forma (Proforma)
A projected financial statement for a property, typically showing revenue, expenses, NOI, debt service, and cash flow over a multi-year hold period. Proformas are the primary underwriting document for acquisition, financing, and investor reporting.
Operating Statement
A financial summary showing a property's income and expenses for a specific period — either historical (actuals) or projected (proforma). Includes potential gross income, vacancy, effective gross income, operating expenses, and NOI.
Potential Gross Income (PGI)
The total rental income a property would generate if 100% occupied at market rates, including tenant reimbursements and other income. PGI is the theoretical maximum before accounting for vacancy and credit loss.
Effective Gross Income (EGI)
Potential Gross Income minus vacancy and credit loss, plus other income (parking, storage, etc.). EGI represents the actual expected revenue before operating expenses.
Triple Net Lease (NNN)
A lease structure where the tenant pays base rent plus their proportionate share of property taxes, insurance, and common area maintenance (CAM). The landlord passes through virtually all operating expenses to tenants.
Base Year Stop
A lease structure where the landlord pays operating expenses up to the base year amount. Tenants pay their proportionate share of any increases above the base year. Common in office leases — protects the landlord from expense inflation.
Modified Gross Lease
A hybrid lease where some expenses are included in the base rent and others are passed through to tenants. Often, the landlord covers certain expenses (property taxes, insurance) while tenants pay CAM and utilities above a base amount.
Common Area Maintenance (CAM)
Expenses related to maintaining shared spaces in a commercial property — lobbies, parking lots, landscaping, elevators, and common corridors. CAM charges are typically passed through to tenants on a proportionate share basis.
Weighted Average Lease Term (WALT)
The average remaining lease term across all tenants, weighted by each tenant's rental income. A longer WALT indicates more stable, predictable cash flow; a short WALT signals rollover risk.
Tenant Concentration
The percentage of total rental income attributable to the largest single tenant. High tenant concentration (e.g., one tenant providing 50%+ of income) creates single-tenant risk — if that tenant vacates, property income drops dramatically.
Break-Even Occupancy
The minimum occupancy percentage required for a property's revenue to cover all operating expenses and debt service. A higher break-even point means the property is more sensitive to vacancy.
Terminal Value (Reversion Value)
The estimated sale price of a property at the end of the hold period. Typically calculated by dividing the projected NOI in the final year (or year after sale) by a terminal cap rate. Terminal value often represents 50–70% of total investment value in a DCF.
Discount Rate
The rate used to convert future cash flows to present value in a DCF analysis. It represents the investor's required rate of return and accounts for risk, opportunity cost, and time value of money. Typically 7–12% for commercial real estate.
Hold Period
The projected number of years an investor plans to own a property before selling. Hold periods typically range from 3–10 years for value-add deals and 7–15 years for core investments. The hold period determines the number of years modeled in a proforma.
Waterfall Distribution
The contractual structure that determines how investment returns are divided between General Partners (GPs) and Limited Partners (LPs). Returns cascade through tiers: return of capital, preferred return, GP catch-up, and residual profit split.
Preferred Return (Pref)
The minimum annual return that LPs must receive before the GP earns any promote or carried interest. Common preferred returns are 6–10% IRR. It acts as a downside protection floor for passive investors.
Promote (Carried Interest)
The GP's disproportionate share of profits above the preferred return hurdle. A 20% promote means the GP receives 20% of profits above the pref despite contributing only 5–10% of equity. It incentivizes the GP to maximize returns.
GP / LP Structure
General Partner (GP) is the active deal sponsor who finds, operates, and manages the investment. Limited Partners (LPs) are passive investors who provide capital. LPs have limited liability; the GP has unlimited liability and operational control.
Step Increase (Rent Escalation)
A predetermined rent increase built into the lease — either a fixed dollar amount or a percentage applied at regular intervals (typically annually). Step increases protect the landlord against inflation and provide predictable income growth.
Tenant Improvements (TI)
Alterations to a commercial space made for a specific tenant, typically funded by the landlord as a leasing incentive. TI allowances are expressed as $/SF and vary by market, property type, and lease term. Longer leases typically command higher TI allowances.
Leasing Commissions (LC)
Fees paid to real estate brokers for securing a tenant lease. Typically expressed as a percentage of total lease value or a $/SF amount. New leases usually carry higher commissions than renewals.
Vacancy Rate
The percentage of total rentable area that is unoccupied. Physical vacancy measures actual empty space; economic vacancy also includes free rent periods and non-paying tenants. Lower vacancy means higher effective income.
Absorption
The rate at which available space in a market is leased over a given period. Positive absorption means more space is being leased than vacated (tightening market); negative absorption means the opposite (loosening market).
Amortization
The process of paying off a loan through scheduled principal and interest payments over time. A 30-year amortization with a 10-year term means the loan is structured as if it would be paid off in 30 years, but a balloon payment is due at year 10.
Debt Yield
NOI divided by total loan amount. It measures the lender's return if they had to foreclose and operate the property. Unlike DSCR, debt yield is independent of interest rate and amortization terms. Most lenders require a minimum debt yield of 8–10%.
Expense Ratio
Total operating expenses divided by effective gross income. It shows what percentage of revenue goes to property operations. Lower expense ratios are generally better, though they vary significantly by property type (NNN industrial vs. full-service office).
Recovery Ratio
The percentage of total operating expenses recovered from tenants through pass-throughs (NNN charges, CAM, tax recoveries). A 100% recovery ratio means all expenses are passed to tenants; typical ratios range from 60–95% depending on lease structure.
Put These Concepts Into Practice
Compass calculates NOI, IRR, NPV, DSCR, WALT, and every metric in this glossary — automatically from your property data.
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