Healthcare US: Changing diagnosis
President Trump has pledged to abolish Obamacare. But there are bigger factors at play for US healthcare. Christopher O’Dea reports
The US healthcare industry is being transformed by a number of key factors. For one, Americans are using a broader range of healthcare locations and facilities every year, prompting a shift away from hospitals and traditional medical office buildings to a host of new sites.
According to HCCA Management Company, hospitals today are 65% occupied. Healthcare providers are behaving increasingly like retail outfits when it comes to location, in part due to the influence of the Affordable Care Act – or Obamacare – which has encouraged providers to move into communities in high-traffic, accessible locations.
The ultimate aim, according to brokerage firm Marcus & Millichap, is to optimise the convenience, cost and time for both operator and patient. The goal is to provide patient services that can be integrated into routine commuting instead of forcing people to travel to a centralised medical facility. This can help reduce the use of costly hospital emergency rooms for delivering routine care.
Healthcare providers’ real estate strategies must now be in synch with their business and clinical strategies. This means more standalone clinics, more single-service treatment and care facilities in convenient locations.
It also involves designing new facilities around streamlined clinical processes and patient satisfaction. JLL found that just 18% of 40 healthcare systems manage their property assets centrally, despite the operating margins being, on average, four percentage points higher for this approach.
The biggest factor behind the change in property use is that spending on healthcare in the US is rising. Healthcare now accounts for nearly 20% of the US economy, and the GDP impact of the sector in the US is larger than all but five national economies in the world. Just as finance, and then technology, became major components of stockmarket indexes and significant influences on the US economy, healthcare now appears to be exerting the biggest influence.
The US Centers for Medicare & Medicaid Services says the 2016 tally of the US National Health Expenditure Accounts (NHEA) – the official estimates of total healthcare spending in the US – show that US healthcare spending grew 5.8% in 2015, reaching $3.2trn (€3trn), or 17.8% of GDP. Since the 1960s, the NHEA has measured annual US expenditures for healthcare goods and services, public-health activities, government administration, the net cost of health insurance, and investment related to healthcare.
“The biggest factor driving changes in property use is that spending on healthcare in the US is rising”
Sub-sectors, like dialysis treatment centres, have been producing cap rates of 7% or more in the past year or so, attracting significant demand from investors seeking yield. Demand for dialysis is growing steadily due to the ageing population and rising obesity rate. Dialysis service providers such as Fresenius and DaVita typically locate in freestanding buildings in high-traffic strip centres, under net lease contracts much like restaurants or pharmacies do. The highest value sites are near hospitals or medical offices, and because kidney dialysis requires ongoing, regularly scheduled visits, tenants provide property owners with a secure long-term income stream.
Cap rates for dialysis centres have compressed due to investor demand, according to Jonathan Hipp, founder and CEO of Calkain Companies, which specialises in single-tenant net lease investments. The average cap rate for properties leased to Fresenius Dialysis under contracts with less than 10 years remaining was 7.92% late last year, compared with 6.15% for newer contracts with more than 10 years remaining.
Healthcare property investment requires specialist medical expertise. It also requires investors to stay at the forefront of a rapidly evolving sector to be able to attract top-tier tenants. JLL, for example, in October acquired a compliance technology consultancy that focuses on health system regulations.
Healthcare REITs are refining their investment strategies to deploy capital more efficiently into segments where they have developed specialised expertise and scale. Welltower undertook strategic changes that resulted in 43% of its net operating income being derived from senior housing properties. The company is focused on operating housing, rather than tenant credit quality or acquisitions, making operating results more important for earnings – “more than any other large cap healthcare REIT”, according to a recent note by Goldman Sachs. Welltower “believes its senior housing portfolio has very limited exposure to markets with supply pressures”, it said. “Its top markets”, such as a 14.9% allocation to Los Angeles, “are seeing minimal new supply”.
Other investors are targeting different segments. At HCP, a leading diversified US healthcare REIT, 84% of the development pipeline consists of life sciences property. Its life-science flagship, The Cove at Oyster Point, is an amenity-rich, class-A campus totalling 1m sqft at the gateway to South San Francisco, where overall life science vacancy is below 3%. The REIT is targeting a return on cost of between 7.5% and 8% when the three-phase project is stabilised.
In short, delivery of healthcare is changing, integrating clinical practice with research, labs and scientific capabilities. The changes reflect an evolution in the national ethic – Americans now believe that everyone ought to have some form of healthcare coverage – and property is being designed to accommodate life changes. Whereas 100 years ago people were born at home and died at home – and all medicine could do was make you comfortable as nature took its course – much more is expected today. And for property investors, those changes represent an institutional-scale opportunity.