Successful Healthcare Real Estate Investment

Medical real estate is one of the hottest asset classes, but mistakes can be expensive 

by Trisha Talbot

Stock market uncertainty resulting from Russia’s war in Ukraine has many investors looking for options yielding better returns. Real estate has historically provided excellent profit, especially in recent years with apartments and industrial facilities, including distribution and data centers, in high demand to keep up with explosive growth in the Phoenix area.

Because Phoenix is attracting so many people (the metropolitan area is projected to add nearly two million people in the next 20 years), there’s another real estate investment opportunity businesses and individuals should consider adding to their portfolios. Healthcare real estate — including medical office buildings (MOBs), surgical centers and urgent cares — offers tremendous returns when approached wisely.

Why Healthcare Real Estate?

Considered recession-proof because healthcare is mission critical and demand driven, medical real estate is one of the hottest asset classes. It also proved to be pandemic-proof, with landlords reporting they retained 94 to 96 percent of rents from healthcare tenants. Better still, not only are these tenants financially strong, as physicians are generally high earners with stable businesses, but they also usually sign longer leases of five to ten years because it’s so expensive for them to move. 

Moreover, lease rates tend to be higher because tenant improvements are much more complex than a general office. For example, with a sink in every exam room, plumbing is more expensive. Specialized practices like radiology or orthopedics as well as surgery centers with multiple operating rooms require even more customization.

Increased demand, low tenant attrition and limited speculative construction keep vacancies considerably lower than the traditional office building sector. And in especially popular areas of the Valley like Gilbert and Queen Creek in the East, Peoria to Lake Pleasant in the West and along the I-10 from Goodyear to Buckeye, they’re even lower.

Look Before You Leap

Although healthcare real estate can be very lucrative, mistakes can be expensive. It’s imperative to do some homework before investing. Taking the following steps will help ensure the best returns:

Talk to someone familiar with the asset class. An advisor will help determine not only what an investor can pay for a property, but also what the total investment will be — including lease turnovers and capital needed for improvements. Understanding the bigger picture will guarantee an investor has enough in reserves. Because healthcare real estate is so complex, it’s important to select an expert who has owned, leased, managed, sold, developed, built or financed a medical property, as such individuals understand exactly what healthcare properties require and can accurately underwrite what is needed over the lifetime of the investment.

For example, an advisor can identify issues with the age of the building — not only plumbing and HVAC concerns, but what functionality upgrades may be required to comply with the Americans with Disabilities Act.

Choose trustworthy investment partners and define each one’s role. An advisor can introduce investors to others who understand what a medical property needs to succeed, but no matter who is involved, having a clear operating agreement that defines how much everyone wants to contribute and how returns will be distributed is essential. The agreement should also address who takes the lead on managing the asset after the purchase. Because healthcare properties require sterile environments and often handle hazardous waste, many investors opt for a management company equipped to address the higher expectations for cleanliness.

Establish a banking relationship. If financing is needed, a lender can determine the terms of debt service as well as how much an investor can borrow and what the payment will be. Such information will help the advisor home in on properties the investor can afford. Failure to do so can result in recapitalization (having to bring in additional equity partners to reduce debt) down the road.

Analyze income and risks. It’s important to make sure leasing income can support expenses plus provide the desired profit. Interviewing the prospective tenants likewise provides tremendous insight on their satisfaction and whether they plan to stay. Does the building meet all their needs? Is there a hospital nearby that keeps them there? Do the tenants refer business to each other? The ideal property has some kind of “stickiness” that makes it difficult for tenants to leave.

Healthcare real estate can be a tremendously successful investment when using a thoughtful, data-driven approach. Establishing a portfolio strategy aligned with cash flow and profitability goals is vital; working with a broker who understands the complexities of this niche market will yield the best results.  

Trisha Talbot is managing principal at healthcare real estate investment services firm DOCPROPERTIES, a Scottsdale company that connects physicians with expansion goals to investors seeking income-producing healthcare properties. Consistently ranked among the state’s top commercial real estate brokers, she helps both increase profits and manage occupancy costs. She provides the latest market data at docproperties.com/az-medical-office-market.

Did You Know: MOBs Commanding More Than Ever
The average sales price per square foot for medical office buildings climbed to $309 in Q4 2021 but properties are commanding more than $600 per square foot in some areas of the Valley. Asking rents were as high as $35 per square foot at the end of 2021. 

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