Health Reform May Boost Medical Office Building Market

Health Reform May Boost Medical Office Building Market

When Mercy Health Partners in Knoxville, Tenn., opened a medical office and diagnostic center in a former grocery store in South Knoxville, a big challenge was ensuring that people felt they were there for medical care and not a gallon of milk.

“We want patients to feel like they are in a nice, safe and leading-edge medical environment, rather than in aisle three,” said Melanie Robinson, the health system’s director of business development.

Mercy Ambulatory Care Center South is one of many medical office spaces either opening or in the planning stages as hospitals — and real estate investors — prepare for the growing number of people expected to become newly insured as health system reform takes effect. Hospitals are creating more space for physicians, though so far it appears practices are not preparing to expand.

■Change of fortune
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■Topic: Health reform
“Ambulatory care is more and more important,” Robinson said. “We are doing our research now to determine where we will build next.”

Analysts said helping the market is the relatively large amount of prime commercial real estate available because of the stores that closed and the offices that vacated during the recession.

Financing is becoming easier as the recession’s credit crunch loosens its grip. In addition, the relative stability of the medical office building sector has attracted investors who are putting more money into this type of real estate or health care real estate investment trusts, or REITs.

“REITS are strong players and looking to buy buildings,” said Paul Heiserman, brokerage senior associate with the health care services group at Colliers International in Columbus, Ohio.

Some of this space is on hospital campuses, but much of it is off campus, such as the Mercy project.

“More physicians are now looking to be employed by the hospital, and a lot of the hospitals are moving these doctors into the community to expand their market share,” said Chris Bodnar, first vice president and head of the national health care capital markets group in CB Richard Ellis’ Denver office. “These retail centers that are being converted are more in the community and are places where people frequent.”

This means that physicians who own medical office buildings may discover more interest if they want to sell, especially if the space will be leased back to the practice, analysts said. Buildings with tenants tend to be more valuable than those without. Physicians are usually seen as attractive tenants because medical practices tend to move less frequently than other small businesses.

“There’s … an immediate opportunity for hospitals and medical groups to monetize their real estate investments,” said Bryan Lewitt, senior vice president of CB Richard Ellis’ Southern California health care services practice in Los Angeles.

The real estate services firm projects that significant new space will be needed. It estimated on March 16 that the state would need 7.2 million square feet of medical space to handle 3.1 million newly insured Californians.

“These newly insured patients will need a place to receive medical attention, and currently the space does not exist,” Lewitt said. “In this recovery, no industry is better positioned than health care to take advantage of the reduced pricing and lower lease rates available in the current market.”

A May 24, 2010, report by Marcus & Millichap, a national real estate services firm based in Encino, Calif., predicted that an extra 60 million square feet of medical office space would be needed nationally by 2019 because of health reform expansions.

The impact of health reform on medical office buildings will be the subject of several sessions at the Building Owners and Managers Assn. International’s Medical Office Buildings & Healthcare Facilities Conference on May 4-6 in Dallas. The significance of the Patient Protection and Affordable Care Act to real estate is a matter of debate. Many projections use two square feet per new patient as a multiplier to determine how much space will be needed.

“No one is sure where that number came from, and I don’t think any of us really knows,” said P.J. Camp, managing director of Shattuck Hammond Partners’ New York office.

Most experts agree that more outpatient medical office space will be needed. They also advise to start planning now because of time needed for projects. There is disagreement, however, about whether this will be new medical space or whether a significant amount will come from space conversion.

“We’re moving towards an ambulatory strategy, but we are rehabbing what we have got,” said Neil Carolan, vice president and chief of physician development and real estate at Carondelet Health Network in Tucson, Ariz.

Physicians are uncertain how health reform will affect their needs for space. Many in the real estate industry have noticed increased activity from hospitals but not physician practices.

“Hospitals are moving forward with their plans to prepare for an increased demand for health care,” Heiserman said. “Physicians have more of a watch-and-wait attitude and want to see exactly what happens. Small practices are being a little more conservative.”

Another complicating issue for physicians is that hospitals are acquiring medical practices at a faster clip, and it’s unclear how a medical office building will be a part of the deal.

“Will the hospital keep the physicians in the existing building or put them in a new building?” Heiserman asked. “Many physician practices are holding off from doing major projects.”

Source:, Victoria Stagg Elliott

Change of fortune
Like a lot of real estate during the recession, sales of medical office buildings slowed significantly. But unlike other types of properties, these sales have come back, and it’s expected that office construction will pick up as well. Sales figures are in millions of dollars.

Quarter Cumulative
12-month sales Quarterly
volume of sales Annual quarter-to-quarter
Q1 2008 $6,242.9 $1,236.2 0%
Q2 2008 $5,551.1 $1,580.0 -30%
Q3 2008 $5,066.4 $949.4 -34%
Q4 2008 $4,768.8 $1,003.2 -23%
Q1 2009 $3,958.5 $425.9 -66%
Q2 2009 $2,798.8 $420.3 -73%
Q3 2009 $2,512.7 $663.3 -30%
Q4 2009 $2,051.1 $541.7 -46%
Q1 2010 $2,214.8 $589.6 38%
Q2 2010 $2,406.4 $611.9 46%
Q3 2010 $3,055.3 $1,312.2 98%
Q4 2010 $4,210.7 $1,697.0 213%

Source: Real Capital Analytics

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