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Medical Office REITs Should Outperform in 2013

Tickers in this article: HR HTA

NEW YORK ( TheStreet) -- According to Rosen Consulting Group, the U.S. privately owned medical office market totaled about 478 million square feet in 2011. An estimated 74.2 million square feet, or 15.5%, of that total was owned by publicly traded health care real estate investment trusts.

According to the last comprehensive survey of buildings from the U.S. Energy Information Administration, the total square footage of all outpatient facilities was 1.3 billion in 2003.

With the Affordable Care Act adding around 35 to 45 million insured patients to the marketplace, the utilization of health services should increase. This bodes well for hospitals' and physicians' volume and is a net positive for hospitals and the owners of on-campus medical office buildings.

Although coverage for these additional new patients is expected to be funded in part by Medicare and Medicaid cuts to providers, the increased volume for hospitals and physicians is expected to offset any reimbursement cuts.

Medical Offices Should Become Most Favored Asset Sector in 2013

Medical office buildings (typically classified as either on-campus, for facilities located on or connected to a hospital campus, and off-campus, for facilities outside of the hospital campus) have increased in popularity because many leases are long in duration and are triple net, meaning the tenant is responsible for taxes, insurance, and common area maintenance fees.

The triple net feature allows for a more predictable cash flow stream because the building owner is not burdened with having to pay for the variable costs. Often a triple net lease will contain contractual annual rent escalations, providing the REIT with steady cash flow growth over time.

Also, physicians are increasingly attracted to medical office space on or very near hospital campuses in order to leverage hospital services and increase traffic to their practices. Additionally, some physicians are affiliated with hospital systems and require proximity to their campuses. A limited amount of medical office supply in these areas drives strength in related medical office market fundamentals and significant investment opportunities.

Hospital systems have been facing limitations on expansion and as a result, more procedures are being performed in outpatient facilities, which have lower overhead costs than hospital space. Insurance companies and government health care programs also have been formulating their reimbursement policies in order to direct patients to less costly outpatient care, as opposed to expensive inpatient procedures, driving increased outpatient surgeries and physicians' office visits.

Additionally, changing consumer preferences and increasing reliance on specialists and preventative and alternative care providers (such as cosmetic surgery, nutritionists, acupuncture) have been driving health care employment in these areas, leading to accelerating demand for medical office facilities. This decentralization of health care systems has allowed for an expanded range of patient services, as well as opportunities for medical office development and acquisition by private sector real estate owners and operators.

Two Focused Medical Office REITs to Consider in 2013