Healthcare sector offers strong real estate potential

Real Estate Weekly, Nov 26, 2008 by Peter Pitsiokos

As most of the economy struggles to gain any degree of traction, healthcare appears to be holding its own. In fact, it is not just a matter of survival as the segment appears to be thriving in some significant areas, particularly real estate.

A few basic statistics help to explain the strength of the healthcare sector against some pretty tough odds:

The single most telling is the fact that in 2008 the first of some 78 million Baby Boomers, those Americans born between 1946 and 1964, reach the early retirement age of 62 as defined by the Social Security Administration.

These 3.2 million Americans are the proverbial tip of the iceberg, as by 2030 a full 20% of the United States population, more than 66 million people, will be 65 and older.

As America ages, more people are going to require more health care. The healthcare industry will account for 16.6% of the gross domestic product in 2008, escalating to 19.5% in 2017.

Perhaps most telling is the fact that the industry appears to be insulated from the rising employment affecting others. For example, in September 2008, the healthcare sector added 17,000 jobs, helping account for a 12-month increase of 360,000 jobs. The only other major sector to add jobs during these periods was mining.

Such robust numbers portend well for astute investors who are able to capitalize on some of the better opportunities in the sector and explain why we are optimistic about the potential for health-related real estate holdings. However, as with any investment, it is vital to understand the risks and rewards associated with each potential opportunity.

Two of the most commonly known health-related real estate investments are Assisted Living Facilities (ALFs) and Independent Living Facilities (ILFs), which have several benefits and risks in common.

On the plus side, they are subject to limited government regulation and are not dependent on government reimbursement for patient care. The supply-to-demand ratio is nearly equal, and there is low market penetration based on those patients who qualify in age and income.

Less promising for the ALFs and ILFs is the fickle nature of many Baby Boomers, who appear to be trending somewhat to ethnically and religiously themed facilities, the emergence of competition from luxury assisted living facilities, the current compression in return on investment and the prospect of disruption of the supply-to-demand ratio.

There is also the matter of inventory, with issues of obsolescence and limits on the ability to reposition many of the ALFs that were shuttered in the late 1990s due to overbuilding.

Skilled Nursing Facilities (SNFs) certainly have their benefits, chief among them the fact that the American people are living much longer and as a result are much more likely to require round-the-clock nursing or medical care at some point in their lives.

There is also the reality that there is no alternate choice for candidates for skilled nursing, even in the face of news media reports of institutional abuse of such patients. The problem is that the risks of SNFs may outweigh the rewards.

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They are heavily regulated, have a high proportion of patients who become indigent during their stay and find that Medicaid reimbursement can be unpredictable.

In addition, the recruitment and retention of nurses and nurses' aides is a continuing challenge.

Hospitals offer another potentially lucrative avenue for investment in healthcare real estate. Trends include hospitals exiting the real estate business, including using their cash to improve their primary mission rather than for investing in real estate.

Targeted facilities, including acute care and long-term acute care hospitals, rehabilitation hospitals to treat those with traumatic or debilitating injuries or diseases, and specialty hospitals, such as those treating cardiac, women and special surgery patients, are an emerging force.

As risks in the true "care" segment of healthcare escalate, Medical Office Buildings and REITs invested in life sciences are gaining momentum.

The benefits to medical office buildings are many, including low tenant turnover and lower vacancy rate, immunity to downturns in the economy, the ability for landlords to capture market appreciation quickly through rent increases and growing demand as practitioners seek cost savings for outpatient services. Although the medical office buildings also cans risk, in most cases it appears to be manageable.

Life Science Properties offer another way to capitalize on the healthcare industry through investments such as BioMed Realty Trust. Holdings include buildings housing laboratories and office for biotechnology and pharmaceutical companies, for scientific research and for government agencies involved in life science.

Other uses include offices for health insurance companies and medical supply manufacturing and distribution.

The outlook for healthcare-related real estate investing remains bright, with the sector currently insulated from such factors as employment, consumer confidence and housing that have been playing havoc with office, retail and housing investments.