What's Causing Rising Rental Rates for Medical Office Buildings?

Interest rates, construction costs, and real estate location are the main drivers.

By Jeff Wardon, Jr., Assistant Editor

Prices and costs are on the rise for many industries, including healthcare. Rent happens to be one of those increasing costs for healthcare facility operations. It is becoming pricier to pay for the real estate itself for healthcare facilities, however, not everything is doom and gloom. 

Not surprisingly, but location is a prime cause of rising rental rates. This is especially the case for outpatient medical facilities located in retail-centric communities, says Mindy Berman, senior managing director of capital markets for JLL.  

“This is as outpatient delivery moves to where the patients live and work versus the hospital campuses,” she adds “So, medical offices are competing for availability of either land for new construction and or space in buildings. These tend to be dedicated medical buildings or occasionally in line retail spaces, so they are competing within markets against the availability and pricing or other products.” 

The second issue also driving up rental rates is higher construction costs. "With construction costs getting increasingly higher, it is driving up the rent to get the returns that developers and others require," says Berman. In addition, it is a combination of construction costs and interest rates being higher. 

“Real estate space is just more expensive today,” says Berman. “The buildout costs are just more expensive, so even if you are leasing space in a building, your tenant improvement costs have gone up substantially from where they were two and a half years ago. We are looking to pre-February 2022 when we saw the greatest escalation of construction costs. So, new leasehold improvements in space have gotten very expensive.” 

Additionally, healthcare facilities have more technology and infrastructure to account for than the average facility. This can further add to costs. 

“Medical space is very capital intensive to build with exam rooms, plumbing, electrical, sometimes four load considerations and other infrastructure that you need,” says Berman. “So, it is more expensive than office retail builds and hence why medical tenants stay a long time in one space. They are very focused on being in locations that will be durable for them to serve patients.” 

Tenants, in this case healthcare providers, are deterred from new construction or moving due to the high costs. As a result, they are becoming more mindful of their own real estate. 

“Healthcare providers are very focused on delivering care, but they also need to be sure that they are getting a return on investment for their deployment of capital,” says Berman. “So, whether it is via a lease or their own ownership of a building, they must have economics associated with the real estate that make their business case viable.” 

In contrast to the challenges arising, healthcare facilities can find some benefit from these circumstances: increased efficiency and improved patient experiences. 

“The designs of large health centers are becoming more centralized, and the space is getting more efficient,” says Berman. “It also has more technology in it and the space must accommodate the advancement of technology. However, it's positive because the patient experience is better. They can get serviced within an exam room or within a single building better than they could have 10 or 20 years ago. With real estate today you can get full service within one building.” 

While costs do continue to rise, healthcare facilities are finding ways to make the most of what they have available to them. Ingenuity and innovation are important because both propel these healthcare facilities forward. 

Jeff Wardon, Jr., is the assistant editor for the facilities market. 

May 18, 2023

Topic Area: Maintenance and Operations

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