Net Operating Income (NOI) vs. Earnings Before Interest and Taxes (EBIT): An Overview
Net operating income (NOI) determines an entity's or property's revenue less all necessary operating expenses. It doesn't take interest, taxes, capital expenditures, depreciation, or amortization expenses into account. Conversely, earnings before interest and taxes (EBIT) consists ofrevenues minus expenses, excluding taxes and interest, but it does take depreciation and amortization expenses into account.
EBIT is a profitability measure for a company that factors in more expenses than the calculation for NOI.
Key Takeaways
- Calculating NOI involves subtracting operating expenses from a property's revenues.
- Calculating EBIT uses the same equation, but depreciation and amortization are included.
- Income taxes do not impact a company's NOI or EBIT, but property taxes are included in the equation.
- Operating expenses are defined as those expenses that are necessary to maintain revenue and an asset's profitability.
Net Operating Income (NOI)
NOI is generally used to analyze the real estate market and a building's ability to generate income. Real estate property can generate revenues from rent, parking fees, servicing, and maintenance fees. A property might have operating expenses of insurance, property management fees, utility expenses, property taxes, janitorial fees, snow removal and other outdoor maintenance costs, and supplies.
The common sense rule is to categorize an expense as an operating expense if it is directly related to a company's core operations. Interest expense is related to financing, not core operations. Income taxes are a regulatory expense, not a core operational expansion. Clearly, both of these items do not directly relate to operations. They are indirect expenses of a company.
The NOI equation is gross revenues less operating expenses equals net operating income. NOI also determines a property's capitalization rate or rate of return. A property's capitalization is calculated by dividing its annual NOI by its potential total sale price.
Earnings Before Interest and Taxes (EBIT)
EBIT is calculated by subtracting a company's cost of goods sold (COGS) and its operating expenses from its revenue. EBIT can also be calculated as operating revenue and non-operating income, less operating expenses.
Assume Company ABC generated $50 million in revenue, and it had COGS of $20 million, depreciation expenses of $3 million, non-operating income of $1 million, and maintenance expenses of $10 million during the last fiscal year. Its resulting EBIT was, therefore, $21 million. Its EBIT equation is $50 million (revenue) plus $1 million less $10 million (maintenance expenses), less $20 million (cost of goods sold), and less $3 million in depreciation, equalling $18 million.
NOI vs. EBIT Example
Assume an investor purchases an apartment building in an all-cash deal. The property generates $20 million dollars in rents and servicing fees. The apartment building has operating expenses that amount to $5 million and depreciation expenses of $100,000 for its laundry machines.
The resulting NOI generated by the apartment building is $15 million ($20 million less $5 million) because depreciation is not included in this calculation.
The building's EBIT is different because EBIT takes into account the depreciation expense. Therefore, the resulting EBIT generated by this apartment building is $14.9 million ($20 million less $5 million less $100,000).
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Now, let's delve into the article's concepts:
Net Operating Income (NOI):
Net Operating Income (NOI) is a crucial metric used to assess the financial performance of real estate properties. It is calculated by subtracting operating expenses from a property's revenues. Operating expenses include costs such as property management fees, utility expenses, property taxes, janitorial fees, maintenance costs, and more. NOI excludes certain expenses like interest, taxes, capital expenditures, depreciation, and amortization.
The NOI equation is expressed as follows: [ \text{NOI} = \text{Gross Revenues} - \text{Operating Expenses} ]
NOI is commonly utilized in the real estate market to gauge a property's ability to generate income. Additionally, it plays a crucial role in determining a property's capitalization rate, which is calculated by dividing the annual NOI by the potential total sale price of the property.
Earnings Before Interest and Taxes (EBIT):
Earnings Before Interest and Taxes (EBIT) is a profitability measure for a company. Unlike NOI, EBIT considers depreciation and amortization expenses but excludes interest and taxes. The EBIT equation involves subtracting a company's cost of goods sold (COGS) and operating expenses from its revenue.
The EBIT equation is expressed as follows: [ \text{EBIT} = \text{Revenue} - \text{COGS} - \text{Operating Expenses} ]
In the article, an example is provided to illustrate the calculation of EBIT. It involves a company, Company ABC, with revenue, COGS, depreciation expenses, non-operating income, and maintenance expenses. The resulting EBIT is calculated using these components.
Comparison of NOI and EBIT:
The key distinction between NOI and EBIT lies in the treatment of depreciation expenses. While NOI excludes depreciation, EBIT incorporates it into the calculation. The article provides an example involving the purchase of an apartment building in an all-cash deal. In this example, the resulting NOI and EBIT are different due to the consideration of depreciation expenses in the EBIT calculation.
In summary, both NOI and EBIT are important financial metrics, with NOI being particularly relevant in real estate analysis, while EBIT is a broader measure of profitability for companies, considering a wider range of expenses. Understanding these concepts is crucial for making informed financial decisions in both real estate and business contexts.
