Commercial
Real Estate

The five major sectors

• Multifamily (5+ units). Apartment buildings of 5+ units. Agency debt (Fannie, Freddie), CMBS, bank portfolio. Cap rates 4.5–6.5% in 2026 primary markets, 6–8% tertiary. Lowest risk of the five, typically lowest yield.
• Office. Class A downtown, Class B suburban, Class C older stock. Post-COVID occupancy cratered. Class B/C obsolete in many markets. Cap rates 7–10%+ in 2026 (historically 5–6%). Highest risk, highest yield.
• Retail. Strip centers, regional malls, power centers, single- tenant NNN (dollar stores, pharmacies, fast food). Grocery-anchored strong; mall and non-essential weak. Cap rates 6–8%.
• Industrial. Bulk distribution, last-mile, flex, cold storage. E-commerce demand surge 2020–2024 kept this sector hot. Cap rates 4.5–6% prime, 6–8% tertiary.
• Hospitality. Hotels. Branded (Marriott, Hilton, Hyatt) vs. independent. Highest operating intensity — revenue cycles daily. Cap rates 7–10%.

Alternative sectors (self-storage, senior housing, medical office, data centers, life sciences, student housing) have separate institutional ecosystems and are covered in dedicated references.

Class A / B / C / D

• Class A. New or recently renovated, institutional tenant roster, prime location. Cap rate floor. Lower yield, lower risk.
• Class B. Older but well-maintained, stable market, solid tenancy. Value-add opportunity via renovation to push rents. Core of the market.
• Class C. Older, deferred maintenance, lower-quality tenant base. Workforce housing in multifamily, non-essential retail, older office. Higher yields, higher operating risk.
• Class D. Obsolete, often requires demolition or substantial rehabilitation. High-yield-on-paper but un-collectable rents, high crime, high turnover. Often a trap for novice investors.

Cap rate math

Value = NOI / Cap Rate

NOI (Net Operating Income) = Revenue
                           − Operating expenses
                           (no debt service, no capex)

Revenue = Gross Potential Rent (GPR)
        − Vacancy + Credit Loss
        + Other Income
        (laundry, parking, late fees, storage)

Operating Expenses:
  Property taxes
  Insurance
  Utilities (landlord-paid portion)
  Property management (3-5% of revenue)
  Repairs and maintenance
  General admin, legal, marketing
  Reserves for replacement ($250-500/unit/year residential,
                            $0.10-0.30/sqft/year commercial)

Cap Rate = NOI / Purchase Price
        Market cap rates by sector, 2026:
          Multifamily primary:   4.5-6.5%
          Industrial prime:       4.5-6.0%
          Retail grocery-anchor:  6.0-7.5%
          Office class A:         7.0-10.0%
          Hotel:                  7.5-10.0%

A $5M multifamily at 6% cap yields $300,000 NOI. At a 1.25 DSCR and 65% LTV ($3.25M loan at 6.5% on 30-year am), debt service is $246,000. Cashflow pre-tax: $54,000. On $1.75M equity, that’s 3.1% cash-on-cash — modest, typical of stabilized core-plus deals.

Lease structures

• Gross lease. Tenant pays base rent. Landlord pays all operating expenses. Common in office and multifamily.
• Modified gross. Tenant pays base rent + pro-rata share of expense increases over a "base year." Common in multi-tenant office.
• NNN (triple net). Tenant pays base rent + property taxes + insurance + common area maintenance (CAM). Landlord holds structure and roof responsibility.
• Absolute NNN. Tenant responsible for every dollar of property expense, including roof, structure, casualty. Landlord is pure passive investor. Standard in single-tenant retail (Walgreens, Dollar General, fast-food).
• Ground lease. Landlord owns land only; tenant owns improvements. 50–99 year term. Tenant pays land rent; reversion of improvements at end of term.

Rent escalations: 2.5–3% annual bumps most common, CPI indexation in longer leases, 10% step-ups every 5 years in some retail. Escalations compound — a 3% annual escalator over a 10-year lease adds 34% to revenue by year 10.

CRE lending

• LTV. 65–75% typical. 80% for agency multifamily. 55–65% for office in 2026.
• DSCR. 1.20–1.35x minimum for stabilized, 1.15x for multifamily, 1.40x+ for hospitality. Tighter for Class B/C assets.
• Amortization. 25–30 years, often with IO period upfront.
• Term. 5, 7, or 10-year fixed typical. Balloon at maturity — refinance risk if rates up.
• Recourse vs. non-recourse. Non-recourse with bad-boy carve-outs is institutional standard. Bad-boy triggers (fraud, waste, misappropriation, unauthorized transfer) still expose sponsor personally.
• Prepay. Yield maintenance, defeasance, step-down, or open prepay. Yield maintenance can exceed outstanding principal in declining rate environment.
• Reserves. Tax, insurance, capex, leasing. Sponsor must fund and maintain.

Key metrics

• Cap rate = NOI / Purchase Price
• Cash-on-cash = Annual Cashflow / Cash Invested
• IRR = time-weighted return including exit
• DSCR = NOI / Annual Debt Service
• Loan constant = Annual Debt Service / Loan Amount
• Yield on cost = Stabilized NOI / Total Basis (includes development or value-add costs)
• Equity multiple = Total Cash Distributions / Cash Invested
• Sensitivity: run rent ±5%, vacancy ±5%, rate ±1%, exit cap ±100bps

Data sources

• CoStar — industry-standard leasing and sales comps (subscription $10k+)
• Real Capital Analytics (RCA) — institutional transaction data
• NAREIT, Green Street — REIT and sector research
• Marcus & Millichap, Colliers, CBRE, JLL, Cushman & Wakefield — broker research reports free
• NCREIF — institutional investor benchmark index

Common pitfalls

• Tenant concentration risk. 70% of revenue from one anchor tenant. When they leave, co-tenancy clauses trigger rent reductions from remaining tenants. Underwrite every tenant credit and lease expiration independently.
• Rollover timing. Multiple tenant leases expiring same year. Lease-up risk if market weakens. Stagger rollovers.
• Office obsolescence. Class B/C office 2023–2026 experienced 20–40% value decline. Hybrid work is permanent. Avoid office unless deep-discount basis and obvious path to conversion.
• Environmental liability. CERCLA Superfund imposes strict, joint-and-several liability on owners — even innocent purchaser. Phase I ESA required on every commercial acquisition; Phase II if Phase I identifies recognized environmental conditions.
• Exit cap expansion. Underwriting assumed 5% exit cap 5 years out; actual exit cap at 7% obliterates projected IRR. Add 100bps margin of safety to exit cap.
• Loan maturity default. 10-year loan matures during recession, refinance available only at 25% lower proceeds. Forced sale or loan extension at punitive rate.
• Prepay penalty trap. Yield-maintenance prepay on a 4% note in a 7% rate environment. Penalty can exceed 20% of principal.
• Reserves underfunded. Sponsor optimism skips replacement reserves. Roof fails year 6, no cash. Partner capital call.