Healthcare properties offer exceptional
performance for investors
Spring 2015
Medical offices sales continue at peak levels
The fervor for strong income-producing healthcare property continued
unabated in 2014. For the third consecutive year, medical office building
sales were at peak levels, topping $5.0 billion. The level of activity now
surpasses the prior peak years of 2006-07, when sales exceeded the
same high mark. This new record is a function of greater familiarity with
and acceptance of the asset class, as well as an unprecedented amount
of capital allocated to healthcare amongst institutional real estate
investors.
The heated acquisition environment has fueled sales while the limited
supply of investment product has contained growth in sales. Sales volume
of medical office buildings (MOBs) over 25,000 square feet, excluding
M&A activity, was $5.27 billion in 2014, nearly identical to sales of $5.33
billion in 2013. Both years were 10.0 percent off the peak of $5.94 billion
in 2012. Sales volume in the prior peak years of 2006-07 was somewhat
similar to today at $5.54 billion and $5.46 billion, respectively.
We see the continued intense interest in healthcare properties
persisting in 2015 as institutional, REIT and private equity buyers,
including new entrants, compete for precious little new investment
property. The universe of U.S. medical office property is now
estimated at a total value of $315.0 billion across more than 51,000
properties, according to Revista. The dominant share, 79.0 percent,
is still owned by hospital systems and other healthcare providers.
Health systems, which own the most valuable properties due to the
strength of their affiliation as well as on-campus location, have shown
little interest in monetization, bolstered by robust access to the bond
and bank loan markets offering historically low interest rates. Public
REITs have been competitive buyers for high-quality medical office
properties but continue their long-term hold strategy. New
construction activity has strengthened over the last several years, but
not at peak 2005-07 levels, and much of the new product is funded
directly by or scheduled for acquisition upon completion by the REITs
and health systems.
Total U.S. medical office sales
( > 25,000 s.f.)
Source: JLL research, Real Capital Analytics
Raising capital for healthcare
Performance of portfolio sales
Capital raise for healthcare real estate continues at a strong and
unabated level. Public healthcare REITs have raised nearly $60.0 billion
of debt and equity capital from 2010 through 2014. This outsized amount
represents 21.3 percent of the total universe of REIT capital raise, while
the healthcare segment only comprises 13.0 percent of total REIT market
capitalization. Healthcare REITs returned an impressive 34.0 percent to
shareholders in 2014, the highest percentage of any REIT property class.
This disproportionate interest in healthcare is reinforced by the
proliferation of capital raised by non-listed REITs which, along with certain
major institutional healthcare funds, secured $6.1 billion in equity
commitments in 2014 alone. New medical office funds and separate
account designations for healthcare have brought significant
commitments from first-time pension funds and other sovereign wealth
and offshore funds.
While medical office sales in total continue at a high level, the
number and size of portfolios of medical office buildings trading
hands has steadily declined since 2012. In that year, 11 portfolios –
groups of one or more assets exceeding $50.0 million in sale price
– were sold. Portfolios in 2012 totaled $2.04 billion and represented
slightly more than one-third of total MOB sales. In 2013, sales of 11
portfolios with a total value of $1.91 billion occurred, representing
36.0 percent of total MOB sales. In 2014, portfolio sales dropped off
substantially to $1.36 billion across eight portfolios, representing 26
percent of total MOB sales.
Portfolio vs. MOB sales
(billions)
The net result is that heightened competition for medical office
acquisition has accelerated pricing pressures for comparable medical
office properties and surpassed all prior records. According to Revista, in
2014, the average medical office property sale was $286 per square foot,
an impressive 36.0 percent higher than pricing of $210 per square foot
five years earlier in 2009, and 1.75 times greater than $163 per square
foot in 2003, the first year that reliable industry records were maintained.
Source: JLL research
Source: Revista
The perfect storm for medical office pricing is supported by the strong
credit environment, offering attractive borrowing terms and low interest
rates to property investors, who in turn present positive leverage to
achieve return requirements. Fears concerning the impact of the
healthcare reform and key provisions of the Affordable Care Act of 2010,
that became effective in 2014, appear to have subsided.
Since 2006, 65 multi-asset sales greater than $50 million have
closed, totaling $10.1 billion in aggregate sales volume, representing
more than 36 million square feet. Portfolio sales constituted 26.1
percent of the total $39.0 billion in MOB sales during this period.
More than half of total portfolio deal flow and square footage have
occurred in the past three peak years, consistent with overall interest
in the healthcare property class.
The square footage sold through portfolios has been cut in half over
the last three years, going from 8.1 million square feet in 2012 to 6.2
million square feet in 2013 to 4.0 million square feet in 2014. This
trend illustrates the incredible pressure that major healthcare
investors are under to deploy capital when scale opportunities are
fewer and fewer. Undoubtedly, this helps to explain notable M&A
deals with exceptional pricing not included in our register, such as
the $4 billion sale of integrated healthcare owner Griffin-American
Healthcare REIT II to Northstar Financial in November 2014 and
Ventas’ $2.6 billion acquisition of the publicly-traded ARC Healthcare
Trust in January 2015.
JLL | Spring 2015
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Portfolio sales 2006 - 2014
Source: JLL research
On the sell-side, 2014 was a watershed year with investor sellers finally
taking the lead on total portfolio sales during the period of 2006 to 2014,
making up 44.0 percent of sale volumes. Developers, which historically
led the pack on scale dispositions, now comprise 42.0 percent of total
portfolio sales value. Monetizations from health systems and major
physician practice groups constitute 14.0 percent of total portfolio sales,
a value that has been declining since the heyday of sale-leasebacks
during the economic downturn years of 2008 and 2009 when healthcare
providers had difficulty accessing capital.
Portfolio seller type by volume
2006 - 2014
Value of portfolio sales
The motivation to sell in a portfolio is demonstrated in superior pricing
obtained by sellers through scale. Generally, investors reward
portfolio sellers with a premium in cap rate of 50 to 75 basis points.
Also, value per square foot is above average. In 2014, the average
value of property sold in a portfolio was $330 per square foot
compared to $286 for all medical office building sales. This pricing
level is not only a function of scale, but reflects the value placed on
new construction and hospital affiliation. Value for portfolio sales has
improved in the last three years, going from $250 p.s.f. in 2012 to
$266 p.s.f. in 2013, to the record $330 p.s.f. in 2014, which is an
increase of 37.6 percent over two years.
Going forward, we anticipate a more limited number of large
investor-owned holdings for sale, regardless of market demonstration
of superior outcomes. Public and non-traded REIT acquirers since
the downturn have outnumbered institutional investors that aggregate
properties in closed-end funds. Funds with finite investment horizons
and disposition requirements have historically been a significant
capital source of traded properties. More likely, going forward, funds
will be managed by local or regional players with smaller, off-campus
properties, yet still aligned with health systems. While much of this
will be desirable new construction, average property size is smaller
and market locations are secondary or tertiary.
Portfolio seller type
Source: JLL research
Looking deeper at the sources of portfolio sales, the drop-off in volume is
linked to a substantial drop-off in developer-built MOB portfolios, a trend
that began in 2012. By and large, fewer large-scale developer portfolios
exist in the current era, certainly by comparison to the domination of
independent private developers in the mid-2000s that sourced equity
capital, usually project-by-project, and funded development with traditional
construction loans. In 2013 and 2014, only one developer portfolio was
traded each year, compared to four to five per year during 2010-2013.
Gaining in prominence are investor-owned portfolios acquired as a whole
or individually by funds seeking to harvest and return capital to investors
on a larger scale.
Source: JLL research
JLL | Spring 2015
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Healthcare remains strong for all buyer types
2015 Outlook
Healthcare property remains a strong asset class and performer in
spite of steadily improving fortunes of core property types in 2014 and
record-breaking sales of trophy office towers. MOBs have consistently
retained value over cycles, reinforcing their desirability for those seeking
stable income and durable property values. Investment in MOB portfolio
sales have been dominated by REITs over the last nine years. Notably,
public healthcare REITs acquired 56.0 percent of the total $10.1 billion
in portfolio sales during this period. Non-listed REITs have grown in
significance during this period, acquiring 31.0 percent of the total portfolio
volume and acting as a stable investor when public REIT share prices
have fluctuated during periods of feared increases in interest rates.
Private equity and asset managers, while still a factor with 13.0 percent of
total portfolio sales during this period, did not acquire a single portfolio
in 2014.
We expect the peak in interest in medical office buildings to
continue its ascent in 2015, assuming the key features of the
investment environment such as low interest rates and capital raise
for real estate and healthcare properties are in place. Cap rates will
remain under pressure as investors accept lower returns to deploy
capital for high-quality, stable income-producing properties.
Portfolio buyer type by volume
2006 - 2014
Source: JLL research
Fears concerning the impact of the healthcare reform and key
provisions of the Affordable Care Act of 2010, that became effective
in 2014, appear to have subsided. New development opportunities
will soak up capital at the same rate as they materialize; certain REIT
investors have shifted to control the development pipeline by entering
into “loan-to-own” structures, whereby they provide construction
financing to developers and take title upon completion, rather than
the property going through a common disposition process.
Underwriting of smaller buildings and tertiary market locations is
more common and acceptable to fill acquisition pipelines. Finally,
M&A activity and portfolio listings on a stock exchange are likely to
continue, particularly for non-listed REITs that have successfully
deployed their equity raise.
JLL is proud to be a Gold Sponsor of Revista, a provider of
focused healthcare property data, industry information and
networking opportunities.
Developers continue to sell properties at the highest average price
compared to other sellers. Their new construction product, usually
with hospital sponsorship with no speculative development during the
most recent cycle, averaged $320 per square foot over the last nine
years. Investor sales have yielded $259 on average, slightly ahead of
monetization deals that traded for approximately $249 per square
foot. The performance of the latter category is largely due to the age
of stock, deferred capital in certain cases and the fact that the bulk of
these sales occured in earlier years.
Average sale price by seller type
2006 - 2014
Healthcare Capital Markets
www.us.jll.com/HealthcareCM
Source: JLL research
JLL | Spring 2015
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