A.CRE

Stabilized Pro Forma

Also sometimes referred to as the Economic Pro Forma, the stabilized pro forma is used to evaluate the value of a property at the inception of the analysis period. The stabilized pro forma seeks to estimate the net operating income at time zero. The stabilized pro forma is used by acquirers to help determine acquisition price and by debt originators to calculate loan-to-value.

Putting ‘Stabilized Pro Forma’ in Context

Horizon Equity Partners, a real estate private equity firm, is evaluating the acquisition of Cedar Creek Apartments, a 200-unit garden-style apartment community in a suburb of Nashville, Tennessee. Before proceeding with the investment, the firm develops a stabilized pro forma to estimate the property’s net operating income (NOI) at the inception of the analysis period. This analysis helps the firm determine a competitive acquisition price and supports their financing discussions with potential lenders.

Understanding the Stabilized Pro Forma

The stabilized pro forma focuses on the property’s projected NOI under normal operating conditions, assuming the property is operating at its expected occupancy and rent levels. For Cedar Creek Apartments, the assumptions for the stabilized pro forma are as follows:

  • Total Units: 200
  • Stabilized Occupancy: 95%
  • Average Monthly Rent: $1,500 per unit
  • Annual Operating Expenses: $1.1 million

Calculating Stabilized NOI

To estimate the stabilized NOI, Horizon Equity Partners calculates the Effective Gross Income (EGI) and subtracts the projected annual operating expenses:

  • Effective Gross Income (EGI): $1,500 × 200 units × 12 months × 95% occupancy = $3,420,000
  • Stabilized NOI: $3,420,000 – $1,100,000 = $2,320,000

Using the Stabilized Pro Forma

The stabilized pro forma is critical in determining the acquisition price and informing financing terms. For this analysis, Horizon Equity Partners applies a cap rate of 6% to the stabilized NOI to estimate the property’s value:

  • Value Formula: Value = Stabilized NOI ÷ Cap Rate
  • Calculation: $2,320,000 ÷ 0.06 = $38,666,667 (rounded to $38.67 million)

Additionally, lenders use the stabilized pro forma to calculate the Loan-to-Value (LTV) ratio for financing. Assuming a loan of $25 million, the LTV is:

  • Loan-to-Value (LTV) Ratio: $25,000,000 ÷ $38,666,667 = 64.6%

Conclusion

This hypothetical example demonstrates the importance of the stabilized pro forma in real estate transactions. By estimating the NOI at time zero, Horizon Equity Partners can make informed decisions about acquisition pricing and financing, ensuring the investment aligns with their financial and strategic objectives.

Frequently Asked Questions about the Stabilized Pro Forma in Commercial Real Estate

A stabilized pro forma, also called an economic pro forma, is used to estimate the net operating income (NOI) of a property at the start of an analysis period under normal, stable operating conditions.

Acquirers use the stabilized pro forma to help determine a fair acquisition price by estimating what the property will earn at stabilization. For example, Horizon Equity Partners used it to support a $38.67 million valuation for Cedar Creek Apartments.

Typical assumptions include stabilized occupancy, average rent per unit, and annual operating expenses. In the example, Horizon Equity Partners assumed 95% occupancy, $1,500 average monthly rent, and $1.1 million in operating expenses.

Stabilized NOI = Effective Gross Income – Operating Expenses. In the case example:
$1,500 × 200 units × 12 months × 95% occupancy = $3,420,000
$3,420,000 – $1,100,000 = $2,320,000 stabilized NOI

Lenders use the stabilized pro forma to calculate the Loan-to-Value (LTV) ratio and assess loan risk. In this case, a $25 million loan against a $38.67 million property value produced an LTV of 64.6%.

The acquisition price is estimated by dividing the stabilized NOI by the market cap rate. Example:
$2,320,000 ÷ 0.06 = $38,666,667

Its main purpose is to provide a snapshot of a property’s income potential at stabilization, helping both investors and lenders assess value, risk, and financing terms at the onset of an investment.

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