To analyze a real estate deal, investors need to rely on more than just “instinct.” That is, investing in a deal simply because it feels good doesn’t make much sense. Instead, commercial real estate investors use a product known as a pro forma to project future results of a given deal. From the information in this product, investors decide whether or not to commit funds to a given deal. As such, we’ll use this article to explain how to read a multifamily investment pro forma. 

Specifically, we’ll cover the following topics: 


  • What is a Real Estate Investment Pro Forma? 
  • How to Read a Multifamily Pro Forma
  • Final Thoughts


What is a Real Estate Investment Pro Forma? 




Merriam Webster defines “pro forma” as something based on financial assumptions or projections. In a commercial real estate pro forma, assumptions about a given deal (e.g. costs, rents, interest rates, etc.) create projections about that deal’s results (e.g. future cash flows, ROI, etc.). 


At its most basic level, the real estate pro forma tells investors: based on our projections, if you invest $X, you’ll receive $Y in future cash flows


Major Elements of a Pro Forma 


Depending on the type of real estate deal, a pro forma may require different elements. For example, an analysis of a ground-up industrial development will have different inputs than the analysis to purchase a stabilized apartment building. 


Despite these differences, most pro formas will include some variations of the below elements:

  • Overview page summarizing the deal
  • Projected rent roll
  • Stabilized operating budget
  • Stabilized valuation analysis 
  • Sources and uses (of contributed funds – debt and equity)
  • Projected cash flows and waterfall details
  • Exit (i.e. sale) assumptions and total projected returns


In the next section, we’ll discuss each of these elements and how they relate to reading a multifamily investment pro forma. 


How to Read a Multifamily Pro Forma


As stated, more complex deals require more complex pro formas. For the sake of this article, the below steps assume modeling the purchase of an existing, stabilized multifamily property (i.e. a fully leased building). If you understand how to read this sort of pro forma, analyzing more complicated ones will be far easier.


Step 0: Conduct an Initial Review of the Pro Forma’s Contents and Structure


Practically speaking, pro formas are built within Excel (or similar spreadsheet software). A cover page will summarize the deal and pull data from supporting tabs in the spreadsheet. But, each investor will design a pro forma a little differently. Accordingly, before doing anything else, it’s important to review the cover page and supporting tabs. 


What information does the pro forma contain? How is the pro forma structured? Where does cover page information originate within the spreadsheet? Once you have a general grasp of a particular model, you can then dive into a detailed analysis. 


Step 1: Review the Rent Roll


As with any budgeting process, pro formas begin with the “top line” results, that is, projected rental income. Using what’s known as a rent roll, a pro forma will have a line item for each unit in a multifamily property. Typically, these lines will include 1) the unit number, 2) its square footage, 3) its bed/bath breakdown, 4) its total rent, and 5) its rent per square foot. 


For new developments, these rent roll numbers should be compared against a market analysis to determine whether or not they’re reasonable. When purchasing a stabilized apartment building, these numbers have already been confirmed. (NOTE: As part of an investor’s pre-acquisition due diligence process they’ll still want to audit a selection of current leases to ensure the provided rent roll reflects reality). 


Step 2: Analyze the Stabilized Operating Budget


The rent roll feeds directly into the next major item in a pro forma: the stabilized operating budget. This budget has projected rents and vacancy assumptions at the top, with projected operating expenses in the bottom portion (e.g. maintenance, management, utilities, insurance, property taxes, etc.). Rents minus operating expenses equal net operating income (NOI), the key takeaway from the stabilized operating budget. 


When purchasing an existing building, you’ll be able to compare the projected operating budget against the historical results. Investors will typically request a monthly breakdown of the past few years’ income statements, a financial report known as a trailing 36, or T-36. Analyzing these past results will more accurately guide projections of future results. And, investors will want to confirm that assumptions about future results (particularly with respect to operating expenses) align with past results. 


Step 3: Review the Assumed Cap Rate and Projected Valuation


The stabilized operating budget kicks out a projected NOI, which allows you to estimate a multifamily property’s value. With the commercial value formula, NOI is divided by capitalization, or cap, rate to generate an implied value. 


Conceptually, a cap rate equals the cash-on-cash returns of an unleveraged deal. That is, if you bought a building without a loan, what return would you command? Cap rates are market and property specific, with lower cap rates translating to higher quality, lower risk markets, building types, and tenants. Accordingly, lower cap rates translate to higher valuations but lower potential returns, while higher cap rates result in lower valuations but higher potential returns. 


Investors should ask questions about the assumptions behind a given cap rate, confirming that it reflects market realities for the given market and property type. 


Step 4: Review the Sources and Uses


With a valuation established, the pro forma then feeds into sources and uses for the deal. That is, what mix of debt and equity financing pays for the deal, and how will it be used? 


Commercial lenders typically limit their lending to a certain loan-to-value (LTV) ratio. For example, if your lender agrees to a 75% ​​LTV and the apartment building has a $10,000,000 implied valuation, you can plan for a $7,500,000 loan and $2,500,000 in cash contributions (i.e. equity financing) to close the deal (ignoring closing costs for the sake of simplicity). 


Step 5: Analyze Projected Cash Flows in Accordance with the Waterfall


Once you have projected NOI and debt service, the pro forma can kick out projected cash flows for a deal. In simple terms, a deal’s annual cash flow equals its NOI minus debt service (i.e. loan principal and interest) minus capital expenditures (i.e. cash outlays not reflected in operating expenses). 


This cash flow information will often be presented clearly on a pro forma’s cover page. In a simple, pro rata deal structure, an investor’s percentage of cash flows equal his equity percentage in the deal. For instance, a 25% stake will result in $25,000 of $100,000 in distributed cash. 


But, some deals have more complex cash waterfalls, the rules governing distribution of cash. These may include multiple waterfall “steps,” with active members of a deal receiving different amounts than the passive investors. Bottom line, when reading a pro forma, you’ll want to confirm A) where you fall in the waterfall, and B) the associated cash flows projected for your investment. 


Step 6: Review Exit Assumptions and Total Projected Returns


Lastly, a pro forma will project a deal’s exit, that is, assumptions about when the property will be sold and for how much money. With this final cash distribution assumption, a pro forma can model a deal’s total returns. The sources and uses outlines contributed cash, projected cash flows look at the cash distributed during stabilized operations, and the exit assumptions provide the final, sale-related cash distribution. 


With this information, a pro forma can model a deal’s overall returns, typically the internal rate of return (IRR) generated over the deal’s time horizon. For instance, a 5-year deal may project an IRR of 12%. Investors should compare a deal’s projected 1) total returns, 2) time horizon, and 3) risks against comparable investments. With this information, an investor can make the decision whether or not it makes sense to join a deal. 


Final Thoughts


To properly analyze a potential multifamily deal, investors need to understand how to read a real estate pro forma. The High Peaks Capital team can help!


If you’d like to discuss different real estate investing options for your unique situation, we’d love to chat! Drop us a note, and we’ll set up a meeting to talk about available passive real estate investment opportunities – and how to analyze the associated pro formas.