Medical Office Continues Its Tear Despite Low Completions

Medical office fundamentals continue to be solid after recovering from pandemic-era construction delays, with the sector posting historic starts. But as costs continue to rise, completions remain low, with experts predicting they are not likely to reach their pre-pandemic rates anytime soon.

The decline in completions has led absorption to outpace new supply as steady demand has kept occupancy consistently above 90%, according to new research from JLL.

“Medical tenants remain in place more consistently than other commercial tenants due to location of services and higher investment in their premises,” the report states. “Compared to the commercial office sector as well as other preferred sectors such as retail, industrial and multifamily, medical office occupancy is routinely stronger, and the events of the pandemic caused less long-term disruption to the sector.”

Asking rents in the sector also continue to rise posting an average of 2% growth over the past five years. As of mid-2022, rents were at a national average of $23 NNN per square foot. Rents have grown for 11 straight quarters.

“While most longterm leases include annual escalations that average 2%, today’s high-inflationary environment has allowed landlords to achieve closer to 3% annually,” JLL experts say.

In addition, the sector enjoys some of the most creditworthy tenants in commercial real estate: average credit ratings suggest healthcare service providers, hospitals and medical operators pose a lower risk of default to landlords than corporate tenants in other sectors, JLL says.

“Lower tenant credit risk is important during economic downturns. Historically, the healthcare sector has proved resilient during these periods, given its inelastic demand profile,” the report states. “The more stable a healthcare company is, the less volatility of demand for space and rents.”

Investment trends also point to another strong sales year, thanks to tailwinds including an aging population and the increased availability of procedures in outpatient settings. Medical office sales reached $9.2 billion in the first half of 2022, after a record year in 2021 with $20 billion closed.

“With H1 2022 sales alone representing nearly half of the prior year’s volume, we anticipate 2022 to be another year of high volume, however uncertain market conditions are expected to cause a slowdown through the remainder of the year,” the report says.