Moderately Healthy Prognosis for Medical Office

While hardly immune from the ills that have plagued other property types, the medical office sector is holding its own better than most other commercial real estate categories, according to an analysis by Marcus & Millichap Real Estate Investment Services Inc. Medical office buildings are benefiting from the aging of the population and rising health care costs. Even though regional markets for medical office buildings tend to track the regional economy and mirror commercial real estate markets generally, any downward impact tends to be softer. Like developers in other specialties, medical office builders are adjusting to changing economic conditions. A downshift in demand will boost nationwide vacancy about 100 basis points to 12.4 percent this year, according to the study. Completions will decline to 14.1 million square feet from their 2008 peak of 17 million square feet. Transaction volume slipped 15 percent from 2007 to 2008, and cap rates have edged up to the high 7 percent to low 8 percent range. In the midst of falling prices for commercial properties, the median price for medical office buildings edged up 1 percent to $210 per square foot nationwide last year. Although the Midwest is not always viewed as a robust growth market for some property sectors, it is a standout for medical office buildings. Cap rates dropped 30 basis points to 8.1 percent in 2008 and median prices edged up 5 percent to $146 per square foot. Health care and research facilities in Ohio are account for a considerable part of the demand. Despite deliveries that will total about 4.4 million square feet this year, rising demand will largely keep pace. That will limit vacancy increases in the range of 20 basis points, one of the lowest in the country, and keep the region’s vacancy to slightly more than 20 percent. In other highlights: • Transaction volume rose 21 percent in the Northeast, despite a 40 basis-point rise in vacancy. A projected 50 basis-point increase this year would bring vacancy to 9.8 percent. Deliveries in the Northeast will drop by one-quarter this year, reducing the amount of new product coming on line to 1.3 million square feet.• Retiring Baby Boomers are the biggest single draw for medical office facilities in the Southeast. This year, Florida alone will account for close to 40 percent of the Southeast’s 4 million square feet of new product. That full development pipeline is also bumping up vacancy, which will rise about 100 basis points from the 11.6 percent tallied at the end of 2008. • Transaction volume plunged by about one-fifth last year in the West/Pacific region, and this year, inventory will grow 1 percent and completions will fall more than 60 percent from 2008 levels. Despite the nation’s lowest vacancy rate, 9.2 percent, Marcus & Millichap expects pricing to decline compared to last year. In 2008, the median price rose 10 percent to $300 per square foot and cap rates hovered in the low 7 percent range.