Funds From Operations (FFO) is calculated as:
FFO = net income + depreciation & amortization + property sales losses – property sales gains – interest income
FFO measures the cash flows generated from a real estate company’s core operations. Unlike net operating income, FFO is levered metric which is after the effects of debt, which is why we start with net income as it is after-interest. Mortgages are core to real estate investments, which is why we look at this on an after-debt basis.
Similar to the cash flow statement, we add back depreciation & amortization since it is a non-cash exense.
We also reverse property sale losses and gains since they are not part of a real estate company’s core operations, and are often driven by market factors outside of the company’s control. Instead, a real estate company’s core operations is driven by rental income and ancillary revenues like parking.
Finally, we reverse interest income from cash since this is not part of the core real estate operations, but rather a financial benefit of having a positive cash balance deposited in the bank.