Houston’s Healthcare Sector is Positioned for Continued Growth
Houston has been long recognized as the energy capital of the world and the energy downturn certainly made its impact felt on the Houston economy and commercial real estate market. Houston’s economy slowed significantly and grew at a lesser pace in 2015, 2016 and 2017, however one of the sectors of the Houston economy that never really tapped on the brakes from expansion was healthcare.
Recent economic indicators indicate the Houston economy is getting back on track and despite the constant uncertainty swirling around healthcare in the United States, Houston’s healthcare market is well positioned to continue its impressive expansion of recent years as healthcare providers look for ways to make patient care more convenient and cost effective.
The Houston health care sector like the rest of the country endured the uncertainty of the political debate over the merits of the Affordable Care Act, a string of resignations from major Houston health system top executives and increasing pressure from insurance companies and consumers to mitigate rising healthcare costs. Despite the headwinds the healthcare sector still managed to add 6,400 jobs in 2018.
Historically, three factors have influence growth in the demand for health care: (1) an expanding population, (2) an aging population, and (3) the availability of health insurance.
Houston ranks among the leading metropolitan areas in the U.S. and is the fourth largest city and the fifth largest Metropolitan Statistical Area (MSA) in the nation. The Metro Houston area, which consists of ten counties, grew by more than 125,000 people between July 2015 and July 2016, making it the second fastest growing metropolitan region in the country.
Despite the fall in oil prices, Metro Houston’s population gain remains solid. Forecasts show Houston’s population growth to be between 1.5% and 2.3% in 2018. The healthcare sector is still one of the primary drivers of growth in the city, although healthcare job creation was the second lowest this year in a decade, healthcare employment is projected to increase by 8,000 jobs in 2018 as the economy recovers from the energy downturn.
On a more long-term basis, demographers project strong population growth for the area over the next thirty years and as Houston’s population continues healthy growth combined with an aging baby boomer population, the increasing number of consumers of health care will continue to drive increasing demand for healthcare services.
More than 250 healthcare-related projects have been proposed for the Houston region ranging from renovating existing clinics to new hospital construction, according to Dodge Analytics. In the short term, the pace of new major healthcare construction projects announced will likely abate somewhat in 2018, as the numerous major projects started over the couple years reach completion, but the demand for healthcare related facilities will continue to grow in the coming years.
Hospital Construction, Expansions & Consolidation
Healthcare Systems continue their push into the suburbs in an effort to provide more convenient access to increasingly demanding consumers. Several Houston-area hospitals completed new hospitals in 2017 or expanded existing campuses in the outer submarkets including The Woodlands, Katy, Pearland Cypress and League City:
- Houston Methodist Hospital opened a 470,000 SF, 193 bed hospital in The Woodlands along with a 135,000 MOB and started construction on a second 160,000 SF MOB.
- Memorial Hermann Health System opened an 81 bed, $168 million dollar hospital in Cypress.
- M.D. Anderson Cancer Center is nearing completion of its 175,000 square foot facility in the Energy Corridor its first free-standing facility outside the Texas Medical Center.
- UTMB opened the an $82 million, 41 bed hospital in League City, the first full service hospital in the Houston suburb and is already planning a 156 million, 300,000 square foot expansion of the campus.
Merger & Acquisition Activity
Consolidation and merger and acquisition activity is on the upswing the healthcare sector as healthcare providers seek efficiencies that will help them to cut costs and remain competitive as private and government insurers seek to hold down rates of reimbursement.
In 2017, HCA acquired four Houston area hospitals, the 423-bed Houston Northwest Medical Center, 181-bed Cypress Fairbanks Medical Center, 444-bed Park Plaza Hospital and the 350-bed Tomball Regional Medical Center and as a result became Houston’s largest hospital system ranked by bed count.
Colorado-based Catholic Health Initiatives, the parent of Houston-based CHI St. Luke’s Health, signed a letter of intent to combine with Dignity Health but the merger if finalized is expected to have little impact on Houston operations.
The Texas Medical Center
Despite the ongoing expansion in suburban Houston markets, The Texas Medical Center continues to grow and remains the epicenter of the Houston healthcare sector and one of the regions primary economic engines. Expansion and new construction has not been exclusive to suburban markets. The Texas Medical Center the world’s largest medical complex with an estimated regional annual economic impact of $35 billion consists of 50 million developed square feet and has $3 billion in construction projects currently underway.
- Houston Methodist Hospital’s $697 million, 1 million-square-foot tower in the Texas Medical Center is nearing completion.
- Memorial Hermann broke ground in May 2017 on the $650 million expansion and renovation of its Texas Medical Center (TMC) Campus.
- Baylor College of Medicine and CHI St. Luke’s Health are continuing to buildout the McNair Campus. Once completed, the McNair Campus will feature 650 hospital beds and will cost $1.1 billion to complete.
Healthcare Real Estate Trends
There are numerous macro healthcare real estate trends in the United States that are not exclusive to the Houston region.
Care Shift Away from the Hospital Setting: Outpatient clinics are more important than ever before as they become the primary delivery vehicle for care. Since 1993, outpatient visits nearly doubled and the traditional hub and spoke model in healthcare, which puts hospitals at the center of care delivery, is changing. The healthcare system’s real estate footprint of the future will include regional acute care hospitals paired with a constellation of ambulatory facilities and medical office buildings to include a mix of community-based comprehensive care centers with a mixture of services, micro-hospitals, ambulatory surgery centers, free-standing emergency departments, imaging centers, primary care clinics and urgent care clinics.
Healthcare in a Retail Setting: While medical office buildings on or near hospital campuses are still very much in demand, for health care providers, retail settings can provide consumer-convenient locations at competitive costs as well as opportunities to market their brands. More consumers are using retail clinics as their first point of entry to the healthcare system. Landlords are increasingly welcoming health care tenants thanks to their perceived stability and ability to drive foot traffic and increase profitability for nearby retailers.
The Rise of Urgent Care: The Urgent Care Center industry represents one of the fastest growing segments of the American healthcare system. With rising wait times for both primary and emergency care providers, urgent care centers have become an increasingly viable alternative for patients. Urgent care clinics are a response to the shift from inpatient to outpatient care and are a low-cost alternative to hospital emergency rooms, where escalating overhead costs and long wait times are the norm.
Over Building of Free Standing ER’s: One trend that is more unique to Houston and Texas is the proliferation of free-standing emergency centers. There are an estimated 400-500 free-standing emergency facilities in the United States and over 200 are located in Texas. The vast majority of Free-Standing Emergency Centers in Texas are operated by independent for-profit operators. The largest player in Texas and the United States has been Adeptus Health who operates the First Choice Emergency rooms brand who filed for bankruptcy protection in April of 2017. There is increasing evidence that the non-hospital system owned free standing emergency operators are experiencing financial struggles and many of these operators are putting these units on the sale block, but are facing the challenge of limited buyers in the marketplace.
Medical Office Market
Vacancy, Construction & Rents
Houston’s overall medical office vacancy rate increased approximately 100% basis points year-over-year primarily due the volume of new construction. Nineteen new buildings were added to the list of CoStar’s medical office properties in Houston in 2017. According to healthcare data services firm Revista, 16 medical office buildings totaling 889,000 square feet are under construction or in the late planning stages in early 2018.
Average asking rental rates for medical office space increased $0.14 per SF over the last half of the year and $0.80 per SF year over year. Class A asking medical office rates were flat for the 3rd and 4th quarter of 2017 but increased$0.72 per SF year over year.
The vast majority of leasing activity for medical use has come from health systems and larger physician organizations. There are many trends in the healthcare real estate industry; one of the more significant ones is the growing number of U.S. physicians that are leaving private practice for hospital employment. The number of independent physicians has declined over the last several years, from 57 percent in 2000 to 49 percent in 2005 and 37% in 2013 according to a recent report from global management consulting firm, Accenture. The 2016 Survey of American Physicians by The Physicians Foundation indicated only 32.7 of U.S. Physicians identified themselves as independent practice owners or partners.
As a result medical office leases are getting larger, with a trend toward efficiency and consolidation in healthcare, the average medical clinic has grown in size. Today a two physician practice will typically lease as much as 5,000 square feet compared to 2,500 hundred square feet in the past. However health systems and large physician practices which are driving medical office demand are often leasing as much as 10,000 to 25,000 square feet.
Houston Medical Office Building Sales
The healthcare sector is increasingly on the radar of institutional real estate investors as the amount of capital pouring into the medical office building sector is robust driven by the recession-resistant fundamentals of this asset class and consistent rates of return. Nationally, publicly traded Healthcare REIT’s have been the most active buyers of medical office buildings in 2017 and that has been the case in Houston as well. Healthcare Trust of America (NYSE: HTA) was the most active buyers of medical office buildings in the Houston market in 2017 with eleven (11) assets acquired. Several of these assets were a part of HTA’s $2.25 billion purchase of more than 70 medical office properties from Duke Realty Corp. earlier this year. Some of the other active medical office building investors in Houston during 2017 included; Caddis Healthcare Real Estate, Med Properties Holdings, Everest Medical Core Properties, Medical Properties Trust and Inland Real Estate Acquisition.
HCA Healthcare Corporation picked up multiple medical office buildings with their acquisitions of Houston Northwest Medical Center, Cypress Fairbanks Medical Center Hospital and Tomball Regional Medical Center.
Despite the capital flowing into the 1.4 billion square foot outpatient real estate sector from publicly traded REIT’s and private investors, the vast majority of ownership of medical office buildings remains in the hands of Hospital/Health Systems. According to healthcare real estate data firm Revista, approximately 65% of outpatient real estate is owned by Hospital/Health Systems in the United States.
Colliers International has tracked thirty-one (41) medical office building sales in the Houston marketplace in 2017 for buildings greater than 10,000 square feet.
▸ Download the Colliers Houston Q4-17 Healthcare Report
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