A real estate pro forma is the projection of a property’s revenue, expenses, and cash flow that anchors every underwriting decision. Revenue minus expenses equals net operating income (NOI); NOI minus CapEx (capital expenditures) equals unlevered cash flow; the exit cap rate decides whether the internal rate of return (IRR) is real or back-solved. The line items vary by asset class: commercial in dollars per square foot per year, multifamily in dollars per unit per month, development with a sources-and-uses table layered on top. The discipline doesn’t vary. Sellers build pro formas to sell; sponsors build them to underwrite.
Every real estate deal closes on numbers somebody made up.
The pro forma drives every step that follows: purchase price, loan size, equity raise, general partner (GP) economics, and limited partner (LP) returns all run off one projection of revenue, expenses, and NOI. Get the assumptions right and the deal closes on math that holds. Get them wrong and the close happens on numbers the property can’t actually generate.
Most operators treat the pro forma as a math exercise. The real underwriting test is which assumptions hold under stress. The seller built theirs to sell; the sponsor’s job is to re-underwrite, not adopt.
What is a real estate pro forma?
A real estate pro forma is a projection of a property’s revenue, expenses, and cash flow over a defined hold period, used to model NOI (net operating income), unlevered cash flow, and investor returns before committing capital. Brad Hargreaves, Thesis Driven founder, defines it more bluntly in TD’s Real Estate Finance 101 workshop:
“Pro forma is just a complicated word that means my estimate, my projection for what the P&L is going to be in the future. So pro forma P&L is my best estimate of what NOI the property will generate once it’s stabilized.”
The standard horizon is five years, ten or longer for core assets, shorter for opportunistic and value-add deals where the business plan caps the timeline. The output is the property’s cash flow, the metric that drives the value of any income-producing asset.
For buyers, the seller or broker’s pro forma comes attached to the offering memorandum (OM), a sales artifact the sponsor’s job is to verify and bake margin of safety into because the projections run optimistic. For developers, there’s no seller pro forma to start from; the model gets built from scratch from market comps, cost estimates, and stabilization assumptions.
A pro forma is the sponsor’s forecast; a T12 is the property’s history. T12, short for trailing twelve months, is the actual financials over the prior year and the baseline the pro forma projects forward from. In-place pro forma sits between them: what the property currently generates at existing tenants and existing rents, before any growth or lease-up assumptions land. Stabilized pro forma is the projected year the building hits target occupancy and runs at steady-state operations.
What goes in a real estate pro forma
The top-level math is the same across asset classes: revenue minus expenses gives NOI, NOI minus maintenance CapEx (capital expenditures) gives cash flow from operations (sometimes called economic NOI), and subtracting leasing costs and base building CapEx leaves unlevered cash flow, the cash thrown off by the building before debt service.
Brad’s Harbor Yards example, the mixed-use teaching case he uses across TD’s underwriting curriculum, shows what this looks like with real numbers. The building has 100,000 square feet of office at $65 per square foot per year, 20,000 square feet of retail at $125 per square foot per year, and 80 apartments at $3,500 per month. That stacks to $6.5 million in office revenue, $2.5 million in retail revenue, and $3.36 million in residential revenue. Total potential revenue: $12.36 million before any vacancy, concessions, or other adjustments. That figure is the gross potential rent (GPR), where the pro forma starts.
From there the pro forma backs out loss to lease (the gap between what existing tenants pay and current market rent), vacancy, bad debt (50 basis points to 1%, higher in markets that struggled with collections post-COVID), free rent and concessions, then adds other income (parking and fees universally; laundry and application fees in multifamily; signage and antenna leases in commercial) and reimbursements where commercial tenants pay their pro-rata share of operating expenses. The line that lands is effective gross income, the economic revenue before operating expenses come out.
Operating expenses split across controllables, non-controllables, and non-recurring. Controllables are the line items the landlord influences on the margin: payroll, on-site staff, services, and (in multifamily specifically) make-ready costs for unit turnover. Non-controllables are the line items the market sets: property taxes (millage rate times assessed value, reassessed annually or every few years depending on the municipality), property and general liability insurance (replacement-value-driven, varying by owner master plan and recent loss history), and the property management fee (2% to 4% of revenue in commercial; 3% to 5% in multifamily). Non-recurring expenses are one-time items that don’t flow into NOI. The watchout: sellers sometimes push items that should be recurring below the line, inflating their NOI.
Below the NOI line, CapEx splits across maintenance, leasing, and base building (with construction costs added on development deals). Maintenance CapEx is the reserve for keeping the physical building operational. Leasing costs in commercial deals include tenant improvements (TI allowances paid to tenant build-outs) and leasing commissions, where a new commercial lease commonly pays 4% of gross lease revenue to the tenant rep broker plus 2% to the landlord rep, with renewals running roughly half. Multifamily handles tenant turnover through make-ready opex instead. Base building improvements cover systems, common areas, garages, amenities. Construction costs apply on development deals and split into soft costs (architects, engineers, entitlements, permitting) and hard costs (physical build and labor).
One sanity check on the expense side: a stabilized building runs roughly a 40% operating expense ratio. Anything materially below 40% deserves a closer look at which line items the seller cut. More on cap rates and their role in pro forma exit assumptions in TD’s related Letter on the metric.
The line items are the same across asset classes; the assumptions are what differentiates the underwriting.
How to read a seller’s pro forma
The seller built the pro forma to sell the building. The sponsor’s discipline is to re-underwrite it before submitting a letter of intent. Brad’s framing:
“The purchase price actually becomes the output of this underwriting, because if the deal doesn’t make sense at that price, we can use this exact same math to back into the price we’re willing to pay.”
Most listings carry a whisper price, the number a broker quietly signals the seller would actually accept, which is rarely the public list price. If the listing is $65 million but the whisper is $60 million, the LOI starts at the underwriting-defended number, not the listing. Operators who submit at list price are signaling they don’t know how commercial real estate is priced.
The re-underwriting starts at the assumption layer. Rent growth is the first flag: seller convention runs 3% per year or inflationary throughout, while buyer convention runs 0% for years one and two, then inflationary thereafter. The gap between those two assumptions compounded across a five-year hold materially changes the exit valuation. Vacancy is the second flag. Sellers tend to use sub-market vacancy averages; buyers should use the competitive-set vacancy where the comparable buildings actually sit. If Manhattan office is 15% vacant overall but the trophy buildings on Park Avenue run 5%, a trophy underwriting uses 5%.
The seller built the pro forma to sell the building; the sponsor rebuilds it to operate one.
The assumptions that move the needle
Most pro forma assumptions are minor knobs. A few are the levers that determine whether the deal works. The biggest is the exit cap rate, because IRR is easy to back-solve from a target. A sponsor who needs to hit a 21% IRR can manipulate the cap rate assumption to produce one; the resulting paper IRR doesn’t survive investor scrutiny.
The integrity check on an exit cap rate is whether the assumption matches recent comparable sales in the same submarket. A pro forma that exits at a 5.5% cap rate in a submarket trading at 6.5% is using a 100-basis-point compression assumption that the sponsor has to defend. Compressing the exit cap rate is the fastest way to produce a higher IRR on paper; it’s also the easiest assumption for a sophisticated investor to call out. Brad covers when each return metric tells the truth and when it lies in Why Your Favorite Real Estate Metric Is Bad (and Good).
The construction cost line is the second lever, on development deals specifically. Knowing the reasonable construction cost in a given market is a prerequisite for investing in it. If market-rate construction for the asset class runs $350 per square foot and the pro forma assumes $250, something is off.
Rent escalations are the third lever. In commercial leases they’re baked in contractually, either as a fixed annual bump (commonly 3%) or a tie to the BLS Consumer Price Index (CPI). CPI is the win-both-ways option: tenants get increases tied to a transparent index, landlords get inflation protection. Multifamily applies rent growth at annual lease renewal rather than mid-term. Vacancy assumptions are the fourth, with the competitive-set rule from the previous section. Each lever feeds back into NOI and into exit value. The discipline is to stress-test all four simultaneously, not to optimize one at a time.
Investors expect a sensitivity table on these four assumptions, not a single-scenario projection. The standard deliverable: returns under three exit cap rate scenarios (compressed, base, expanded), two rent growth scenarios (conservative, base), and a downside vacancy case. The pro forma without that table reads as a pitch, not an underwriting document.
IRR sells the deal; sensitivity tables prove it.
Pro forma differences by asset class
The structural math holds across asset classes. The conventions don’t. Commercial pro formas (office, retail, industrial) quote rents in dollars per square foot per year, model leases individually via Argus or equivalent software, and track weighted average lease term (WALT) as the lease-rollover risk metric. A WALT of seven to ten years is strong; five to seven is acceptable; below five carries rollover risk that has to be priced into the cap rate.
Multifamily pro formas quote rents in dollars per unit per month, model the unit mix in aggregate rather than per unit, and lean on in-place numbers more than projected ones because monthly leases roll continuously. The standard view is the current rent roll grossed up to potential, then adjusted down for vacancy, concessions, and bad debt. The Next Generation of Multifamily Metrics goes deeper on the metrics operators watch beyond the basics.
Development pro formas differ from operating pro formas by adding a sources-and-uses table on top of the operating model. Sources: GP equity, LP equity, construction loan, sometimes a co-GP (CoGP) fund or bridge piece. Uses: land acquisition, hard costs, soft costs, contingency, interest reserve. The model adds a stabilization timeline (twelve to eighteen months of lease-up after construction completion), and the exit assumption converts stabilized NOI into a sale price at a target cap rate. Construction cost escalation runs as its own sensitivity.
Asset class drives exit cap rate at sale. Institutional asset classes (traditional multifamily, core office, industrial logistics) trade at lower cap rates because more buyers compete for them. Niche or operationally complex strategies (extended-stay residential, co-living, co-working) trade at higher cap rates because the institutional buyer pool is thinner. When pitching a non-institutional strategy, the sponsor has to demonstrate convertibility back to a known institutional asset class so the exit is defendable.
Multifamily underwrites by unit mix; commercial underwrites by lease; development underwrites by stabilization year.
Common pro forma red flags
A short list of patterns that show up in seller pro formas and deserve attention before they become baked into a deal:
- Back-solved IRR via exit cap rate compression. Pro forma exits at a cap rate materially tighter than recent submarket sales without a defensible reason.
- Rent growth above buyer convention. 3% or higher across the entire hold, with no submarket comp data to anchor it.
- Padded other income. Parking, fees, laundry, and reimbursement lines that exceed what the property has historically generated.
- Non-recurring expenses pushed below the line. One-time items that should be in operating expenses get reclassified as non-recurring to inflate NOI.
- Missing maintenance CapEx reserves. The line is either absent or set absurdly low, ignoring future component replacement.
- Hockey-stick lease-up curves. On development deals, stabilization assumed at twelve months when the comparable market takes eighteen to twenty-four.
- Construction costs below market. Hard costs underwriting at $250 per square foot when the market is $350.
- Operating expense ratio materially below 40%. The 40% opex / income sanity check at stabilization gets violated without an underwriting reason.
- No sensitivity analysis. Single-scenario pro forma with no stress test on the four assumption levers.
Every pro forma tells a story. The underwriting test is which assumptions are believed hard enough to defend.
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Related reading:
- Understanding Cap Rates, the foundational metric behind every pro forma exit assumption
- Why Your Favorite Real Estate Metric Is Bad (and Good), when each return metric tells the truth and when it lies
- Thinking Like an Institutional RE Investor, the underwriting bar pro forma assumptions need to clear
What operators ask before building a pro forma
What is a real estate pro forma?
Short answer: a multi-year financial projection of a property’s revenue, expenses, NOI, and cash flow. Standard horizon is five years, longer for core assets, shorter for opportunistic and value-add. The sponsor uses it to size purchase price, loan amount, equity raise, and investor returns before committing capital.
What does pro forma mean in real estate?
Short answer: “Pro forma” is Latin for “as a matter of form,” meaning a projection rather than an actual. In real estate, sellers build pro formas to sell properties (optimistically), and sponsors re-underwrite them before submitting an LOI. The seller’s pro forma is a starting point, not a baseline.
How do you make a real estate pro forma?
Short answer: start with revenue (gross potential rent minus loss to lease, vacancy, bad debt, concessions, plus other income and reimbursements), subtract operating expenses to get NOI, subtract maintenance CapEx for cash flow from operations, then subtract leasing costs and base building CapEx for unlevered cash flow. Layer asset-class-specific assumptions on rent growth, vacancy, and exit cap rate.
What’s the difference between a pro forma and a T12?
Short answer: a T12 (trailing twelve months) is what the property actually produced in the last year. A pro forma is what the sponsor projects it will produce going forward. T12 is fact; pro forma is forecast.
What’s a good NOI to expense ratio in real estate?
Short answer: Brad Hargreaves’s rule of thumb for stabilized buildings is operating expenses around 40% of rental income. Anything materially below 40% deserves a closer look at which expense lines the seller cut.
What rent growth assumption should you use in a real estate pro forma?
Short answer: buyer convention is 0% for years one and two then inflationary (around CPI). Seller convention is often 3% per year. The integrity check is whether the assumption matches recent rent comps in the submarket.
What’s the difference between an operating pro forma and a development pro forma?
Short answer: an operating pro forma forecasts revenue and expenses for an existing or stabilized property. A development pro forma adds a sources-and-uses table for construction capital, a stabilization timeline, and exit assumptions converting stabilized NOI into a sale price.
