Pricing a mixed use deal means splitting the halves rather than blending the cap

Take a 14 over 3 in a mid size midwest city: 14 apartments over 6,200 square feet of ground floor split into three bays, one of them dark at contract. A listing like this is often marketed at a blended cap on in place income, which is a lazy way to price the asset. The better approach underwrites residential and commercial as two separate income streams and adds them back. Residential: 14 units, $1,050 average, $176k gross, 7 percent vacancy and credit loss, $78k of operating expense against it. Retail: 4,800 leased square feet at $14 modified gross with a partial recovery, 1,400 vacant, the vacant bay carried at zero for 14 months plus $22 a foot of TI and free rent on the re-lease. Combined NOI lands near $144k against a $1.95m basis. The part that most often nearly kills a deal like this is the appraisal. An appraiser running one blended cap across the whole building, using suburban strip comps against a walkable neighborhood block leased to something like a barber and a small grocer, can come in tens of thousands under contract. A second review with the residential and commercial income schedules broken out routinely comes in over. The whole thing depends on one assumption: what share of ground floor operating expense actually gets recovered from the retail leases as written. Drop that recovery rate and the NOI and the debt sizing both move. Reading every retail lease before putting a number on paper is worth more than any other step in that process.