What Key Performance Indicators Are And How To Use Them.
Key Performance Indicators (KPIs) are the results and metrics we use to measure the success of a system. These are typically comparisons such as ratios and percentages. This comparison will show the relationship between various data points which can give us an idea of where we can look closer at the data.
KPI’s are incredibly important when it comes to financial efficiency. They allow us to sum up a very large or complex set of data into a just a few numbers. We can save time and improve analysis by having a solid understanding of what the numbers represent.
The following paragraphs provide some common KPI’s for Velocity Banking and Real Estate Investing. This is not an all-inclusive list, and they won’t apply to every situation, but if you are building a system from scratch this is a good place to start.
Personal Velocity Banking
- Debt to Gross Income (DTI)
What is it? This is your gross income before taxes compared to your debt payments.
How do we use it? This is one of the primary metrics used by banks to qualify you for loans.
- Debt to Net Income
What is it? This is your net income after taxes compared to your debt payments.
How do we use it? This will tell us how leveraged we currently are.
- Living to Net Income
What is it? This is all of our living expenses compared to our net income. This is also expressed inversely as cash flow to net income.
How do we use it? This will show us how tight our budget is. We can identify if we are truly living within our means.
- Months of Reserves
What is it? The amount of cash on hand we have divided by all of our monthly expenses.
How do we use it? Reserves are the safety net. We measure in months to account for budgetary differences.
Real Estate Investments
- Debt Service Coverage Ratio (DSCR)
What is it? This is the Net Operating Income compared to the debt service on the property.
How do we use it? This can show if a property is over leveraged or not. This is also used extensively by banks for financing commercial real estate.
- Cash on Cash Return
What is it? Cash Flow from a property compared to cash invested in the property.
How do we use it? This very common metric is used to compare investments. This is probably the most common KPI on this list.
- Internal Rate of Return (IRR)
What is it? Technically, IRR is the discount rate that makes the Net Present Value of an investment zero. In laymen's terms, this is the annualized rate of return for a project.
How do we use it? Unlike Cash on Cash Return, this metric looks at the full project to generate the return. This can be useful when looking at a multi-year exit with a predetermined exit. The IRR is not a better or worse KPI, as cash on cash is still very useful.
- Operational Expense Percentage
What is it? The total operating expenses for a property divided by the income generated.
How do we use it? This metric allows us to look at the operating efficiency of a property. This also allows us to compare the operating expenses to other similar property that does not have the same income generation.