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Breakeven Occupancy in Commercial Real Estate
Breakeven occupancy is the occupancy at which a commercial real estate property goes from having an operating deficit to an operating surplus. It can also be defined as the point at which effective gross income (EGI), equals operating expenditures (OpEx) and debt service. If a property is exactly at breakeven occupancy, it's DSCR will be exactly 1.00.
- What is Breakeven Occupancy in Commercial Real Estate?
- How to Determine Breakeven Occupancy for a Property
- Investors Can Compare Breakeven Occupancy to Local Occupancy Data to Determine Risk
- Questions? Fill out the form below to speak with a commercial real estate loan specialist.
- Related Questions
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What is Breakeven Occupancy in Commercial Real Estate?
Breakeven occupancy is the occupancy at which a commercial real estate property goes from having an operating deficit to an operating surplus. It can also be defined as the point at which effective gross income (EGI), equals operating expenditures (OpEx) and debt service. If a property is exactly at breakeven occupancy, it's DSCR will be exactly 1.00.
While average breakeven occupancies may be different for different property types, it's a valuable metric for any kind of commercial real estate, including retail, hospitality, office, multifamily, and industrial projects. Breakeven occupancies are typically much lower for hospitality properties, like hotels and resorts, typically averaging between 55%-70%, but are higher for properties like apartment or office buildings.
How to Determine Breakeven Occupancy for a Property
To determine a property's breakeven occupancy, you first need to determine its potential gross income, its operating expenditures, and its debt service, which you do with the formula below.
For example, if a property has a potential gross income of $20,000 per month, operating expenses of $6,000, and $9,000 in debt service, its breakeven occupancy is 75% ($6,000 + $9.000/$20,000). In most cases, lenders prefer a breakeven occupancy of 85% or less before underwriting a commercial real estate loan.
Investors Can Compare Breakeven Occupancy to Local Occupancy Data to Determine Risk
It's particularly important to compare a project's potential breakeven occupancy the historical occupancy of similar projects in the area. This helps investors determine the safety of a potential investment. For example, if an apartment building has a breakeven occupancy of 80%, and the average occupancy of apartment buildings in the area is 85%, the investment may be a risky venture. However, if the average occupancy for apartment buildings in the area is closer to 98%, an investor has a much wider margin of error to work with, making the investment substantially less risky.
Questions? Fill out the form below to speak with a commercial real estate loan specialist.
Related Questions
What is the definition of breakeven occupancy in commercial real estate?
Breakeven occupancy is the occupancy at which a commercial real estate property goes from having an operating deficit to an operating surplus. It can also be defined as the point at which effective gross income (EGI), equals operating expenditures (OpEx) and debt service. If a property is exactly at breakeven occupancy, it's DSCR will be exactly 1.00.
It's particularly important to compare a project's potential breakeven occupancy the historical occupancy of similar projects in the area. This helps investors determine the safety of a potential investment. For example, if an apartment building has a breakeven occupancy of 80%, and the average occupancy of apartment buildings in the area is 85%, the investment may be a risky venture. However, if the average occupancy for apartment buildings in the area is closer to 98%, an investor has a much wider margin of error to work with, making the investment substantially less risky.
What factors should be considered when calculating breakeven occupancy in commercial real estate?
When calculating breakeven occupancy in commercial real estate, you should consider the potential gross income, operating expenses, and debt service of the property. To calculate the breakeven occupancy, use the formula:
It's also important to compare the potential breakeven occupancy to the historical occupancy of similar projects in the area. This helps investors determine the safety of a potential investment. For example, if an apartment building has a breakeven occupancy of 80%, and the average occupancy of apartment buildings in the area is 85%, the investment may be a risky venture. However, if the average occupancy for apartment buildings in the area is closer to 98%, an investor has a much wider margin of error to work with, making the investment substantially less risky.
How does breakeven occupancy affect small business financing?
Breakeven occupancy is an important factor for lenders when considering small business financing. Lenders prefer a breakeven occupancy of 85% or less before underwriting a commercial real estate loan. Investors can compare breakeven occupancy to local occupancy data to determine risk. If the average occupancy for a particular type of business in the area is closer to 98%, an investor has a much wider margin of error to work with, making the investment substantially less risky. This helps lenders determine the safety of a potential investment and can make small business financing more accessible.
What are the benefits of achieving breakeven occupancy in commercial real estate?
The primary benefit of achieving breakeven occupancy in commercial real estate is that it allows investors to determine the safety of a potential investment. By comparing a project's potential breakeven occupancy to the historical occupancy of similar projects in the area, investors can get a better sense of the risk associated with the investment. For example, if an apartment building has a breakeven occupancy of 80%, and the average occupancy of apartment buildings in the area is 85%, the investment may be a risky venture. However, if the average occupancy for apartment buildings in the area is closer to 98%, an investor has a much wider margin of error to work with, making the investment substantially less risky.
Achieving breakeven occupancy also allows investors to determine the DSCR of a property. If a property is exactly at breakeven occupancy, its DSCR will be exactly 1.00. This is important for investors to consider when evaluating loan products, as lenders typically require a minimum DSCR for loan approval.
What strategies can be used to increase breakeven occupancy in commercial real estate?
There are several strategies that can be used to increase breakeven occupancy in commercial real estate. These include:
- Reducing operating expenses by negotiating better terms with vendors and suppliers, or by investing in energy-efficient upgrades.
- Increasing rental rates to increase potential gross income.
- Improving the property's amenities and features to attract more tenants.
- Advertising the property more aggressively to increase visibility.
For more information, please see this article.