As of 2022, the American Hospital Association estimates 33% of hospitals are operating at a negative margin. As this trend is expected to continue in the short term, health systems will likely be forced to make difficult decisions regarding capital expenditures, including investment in new real estate projects, as well as consider further consolidation opportunities. Despite these challenging conditions, there are some silver linings.
In the face of past economic headwinds, the healthcare industry has been noticeably resilient.
In 2022, 92% of health systems report that utilization volumes are now within 5% of pre-pandemic levels, according to The Advisory Board. In the face of past economic headwinds, the healthcare industry has been noticeably resilient. Through today’s economic turmoil, we can expect rising demand for care nationwide—providing opportunities for investors and occupiers who are able to manage costs and offer services that match patient demographics and diagnosed needs. In 2022, patients returned for further care, and healthcare spending has begun to rise again. Patients will continue to need further care due to deferrals from the pandemic. Diagnoses are expected to be more acute as a result of deferred and delayed care and correspondingly, may require greater treatment and intervention.
Hospital Budgets Under Stress: Inflation, Supply Chain and Declining Revenue
Although there are few areas of the economy on which inflation has not had a dramatic impact, its arrival to healthcare was delayed—but its effects are already being felt. Per-enrollee spending within private health insurance plans dropped just a half of a percent in 2020 before rising 5.5% in 2021 and continuing to rise thereafter.
Healthcare real estate operations have also seen increased costs, attributable to supply chain bottlenecks and increased staffing costs across various building service providers.
Update on the Medical Office Building Sector
Medical Office Buildings: Leasing
After occupancies had slightly fallen off into 2020, there has been noticeable growth. Currently, occupancy for US MOBs is 92% in Q3 2022, remaining largely flat for the year so far. Leasing activity has increasingly moved to higher-quality assets in the medical office space. This trend has not been unique to medical office, as other asset types also have experienced leasing activity concentrated among trophy assets in the wake of the pandemic. However, leasing momentum has generally continued with some tenants seeking to lock in longer-term leases in new buildings to mitigate potential inflationary risk.
Medical Office Buildings: Capital Markets Update
Despite costs of capital generally increasing and investors being more cautious when it comes to acquisitions, the number of total transactions in 2022 has remained strong as medical office buildings are seen as safe-haven asset types for investors to reallocate their portfolios.
MOB cap rates, which had in recent years compressed at a greater rate than other asset types such as office, reached a low point of a 5.5% national median in Q1 2022. As of Q3 2022, cap rates have increased to 6.00%. This rise is due, in part, to the increased cost and limited availability of debt, but it is also a reflection of the composition of deals that were brought to market. Owners of stabilized core holdings were more likely to hold rather than sell into a declining market. Not surprisingly, a larger percentage of core plus and value-add transactions raised the median cap rate by 50 basis points in just 6 months.
Cap rates for medical office buildings, which had fallen to a low of 5.5% at the beginning of 2022 have risen to 6.0%
Like many asset types, buyer pools for MOB have been constrained by lack of available debt. To some extent, Q3 2022 metrics are still representative of deal environments during Q1 and Q2, as many Q3 deals were awarded during this time span. Looking forward to Q4, further cap rate inflation is possible as rate hikes, recession concerns and geopolitical conflicts continue to affect pricing.
