Intense competition for urgent care centers, surgery centers and other outpatient medical facilities is driving down cap rates in the sector. There is more demand and less opportunity for medical office buildings as a lot of new investment groups continue to enter the sector, including private equity firms. The firms are drawn to the sector’s stability – medical practices tend to sign long-term leases and have stable occupancy and vacancy rates, too. Cap rates on MOBs tightened to 6.5 percent in the fourth quarter of 2016, after holding steady at 6.7 percent for the three previous quarters, according to the latest information from property research firm Revista.
For some time now, the industry has been mulling when the commercial real estate cycle’s historically-long recovery will end and an economic downturn will begin. By the end of 2018, the economic model created by research firm CoStar Portfolio Strategy predicts an 80 percent chance of a recession, says Rene Circ, director of research at CoStar Portfolio Strategy. Circ points to variables, such as the unemployment rate nearing full employment and business investments down, that are flattening the yield curve and pointing to a recession. Circ also cautions that the Federal Reserve raising interest rates will be a negative to the yield curve. Although the next recession is expected to be milder, the National Real Estate Investor took a look at what asset types are better positioned than others to weather an economic downturn.
While medical office buildings will continue to post strong occupancy stats into the New Year, industry executives are concerned the volatility in the health care sector, stemming from the Affordable Care Act aftermath, changes in technology and hospital consolidation, will keep growth and transactions low. Health systems have been looking more to retail centers to build new medical office building (MOB) projects in an effort to reach an expanding consumer base and make access to care more convenient, and there has been no shortage of investor demand and construction activity. In fact, every state experienced active medical real estate construction in 2015, according to research firm Revista. There was more than $86 billion in new construction in the first half of last year alone, much of which centered on MOB projects.
CentraState Healthcare System, located in Freehold Township, is a private, not-for-profit health organization with 285 in-patient beds and 2,600 employees, making it one of western Monmouth County's biggest employers. Five of CentraState’s properties, ranging from the hospital to assisted-living facilities, are exempt from paying property taxes due to its nonprofit status. However, after a state Tax Court judge earlier this year ruled that Morristown Medical Center had so intermingled its nonprofit and for-profit services and finances that it could no longer qualify for a tax exemption under state law, many nonprofit New Jersey hospitals are concerned they will see similar fates. In this case, CentraState currently pays $1.7 million a year in property taxes, or about 43 percent of its maximum assessment, but could be on the hook for $2 million more.
Morristown and the Atlantic Health System, owners of the Morristown Medical Center, finally reached a settlement, ending the closely-watched property tax battle dating back to 2006. The likelihood of a settlement increased significantly in June when Tax Court Judge Vito Bianco denied Morristown Medical Center's challenge to overturn the Morristown tax assessor's denial of tax-exempt status for portions of its operations, and ruled that the hospital would be responsible for paying taxes. The judge found that the medical center had so intermingled its nonprofit and for-profit services and finances that it could no longer qualify for a tax exemption under state law.
The physician real estate market is dynamic and diverse in the United States due to unique local, state, and federal healthcare regulations significantly impacting the size, type, and location of outpatient healthcare. While the product type/location varies widely in healthcare real estate, two major influences are affecting physician real estate decisions, according to the BDC Network. Prior to 1989, and federal Stark Laws, the real estate market for medical space evolved almost entirely from a campus-based environment. Providers were offered lucrative lease terms to keep them close and hospital admissions high. However, with Anti-Kickback Laws and the Affordable Care Act (ACA) now controlling the market, even the most sophisticated practices are presented with new challenges.
As the Affordable Care Act (ACA) has added more than 16 million new patients to the health care system and brought out more stringent rules for providers, it has pushed many independent physicians to partner with larger organizations. Because the majority of health care services provided today are done in outpatient facilities, and millions of Baby Boomers are expected reach retirement age over the next 10 years, hospitals are buying up small physician practices in order to expand their footprint in nearby communities. These trends are generating consistent demand for single- and multi-tenant medical office buildings (MOBs) located close to residential neighborhoods and retail areas, and the sector is attracting a great deal of investor attention.
Demographics, federal legislation and technological advances are all working in favor of medical office, generating growing attention from net lease investors. According to the National Real Estate Investor, the aging populace is expected to increasingly seek medical services, and the Affordable Care Act will expand insurance rolls, while improvements in medical services will also heighten demand, a situation that is not expected to go away any time soon.
Due to lack of confidence in the future performance of traditional commercial real estate property types, many investors are beginning to set aside capital for alternative assets. According to the National Real Estate Investor, such assets, including student housing, seniors housing and medical office buildings, among others, have broad demographic trends supporting their success, proved immune to the recession and offer higher yields than comparable properties in other sectors.
Due to its traditionally lower vacancies and higher rents, the medical office market has generated investors' interest over the past decade like never before. According to GlobeSt.com, medical and dental tenants tend to be stable, credit worthy, and move less frequently than office tenants due to patient referral patterns and long-term patient relationships which are carefully developed over time. In fact, the vacancy rate among medical office buildings nationwide is generally half that of regular office buildings at about 5-7%.