Orange County’s medical office market has taken some sizable hits during the downturn, but it’s still outperforming the local office market as a whole—at least when it comes to leasing.
The local for-lease medical office market, which totals about 8.2 million square feet of space, ended the second quarter with a vacancy rate of about 11.6%, according to data from the local office of brokerage Colliers International.
That’s not as good as the peak of the market, when OC saw vacancy rates at less than 10% for buildings that cater to doctors, dentists and other healthcare professionals, but it’s still nearly a 1% improvement from the end of 2009, when vacancy rates for the local market peaked at 12.7%.
It’s also well below the nearly 20% vacancy rate that OC’s office market as a whole is approaching following nearly three straight years of falling occupancy rates and declining rents.
OC’s general office market—which totals about 108 million square feet of space— has seen vacancy rates creep up nearly 3% during the past year, in contrast to the improved conditions for medical offices since the halfway point of 2009.
The current vacancy rate for medical office space now stands at roughly the same spot as it was about a year ago, according to Colliers data.
“The numbers are trending more positive, compared to a year ago,” said John Wadsworth, vice president and director for Colliers’ healthcare properties division.
“It may be a sign that we’ve hit bottom, but it’s still a little early to say if this (improvement) is a trend,” said Wadsworth, whose group is marketing a building at Fullerton’s Providence Medical Center, one of the larger local projects of its type to go up in the past few years.
Providence Medical Center, a combination of medical space and shops, is next to St. Jude Medical Center in Fullerton and has buildings for sale and lease. Leasing activity has been stronger than sales so far at the 110,000 square feet of medical space for the project, according to Wadsworth.
If national trends are reflected in OC, the local market could soon see more demand for medical office space.
The healthcare reform act passed by Congress earlier this year is expected to have a “profound impact in both the short and long term” for the medical office market, according to a midyear report from the national healthcare group of brokerage Cushman & Wakefield Inc.
“Thanks to the provision of the law that will come into effect by the end of the third quarter of this year, which expands coverage to millions of new patients, demand for medical office space is expected to increase,” the Cushman report said.
This should translate into a more than 1% drop in national medical office vacancy rates by the end of 2011, the brokerage predicts.
On the flip side, the law’s provision to reduce government reimbursement “could threaten the bottom lines of some medical practices, which, in the long-term, could restrain growth and limit demand in the medical office sector,” the report, released in late July, noted.
Drops in rental rates appear to be one big reason for the recent improvement in occupancy for OC’s medical offices in the past six months.
The average monthly rent for medical office space here is $2.59 per square foot, a 6% decline from just six months ago.
Monthly rents being offered at the end of the second quarter were nearly 12 cents per square foot lower than they were at the end of the first quarter, according to Colliers data.
That suggests landlords are being more aggressive than ever to retain old tenants and attract new ones.
It also appears that developers of the nearly 600,000 square feet of new, for-sale medical office buildings in OC built during the past few years are becoming more aggressive in their pricing in order to close deals.
In general, medical office space in OC now trades hands at about $300 per square foot. That’s some 50% lower than the prices seen at the peak of the market, according to Wadsworth.
It’s also a sharper decline than what’s been seen for non-medical offices in OC, which in general are trading at roughly 33% to 40% below their peak-market prices.
On a national basis, medical offices are selling at $241 per square foot, according to midyear data from New York-based Real Capital Analytics, which does market research on commercial real estate.
Local sales aren’t where they were a few years ago, although interest—particularly for distressed properties—is starting to pick up, according to brokers.
“Buyers are looking for a deal, while sellers are only selling if they have to,” Wadsworth said. “Physicians are bottom-line oriented; they’re not going to make any decisions without a good forecast” on their needs, especially in light of the recently enacted healthcare bill, he said.
There are a few deals to be made for distressed properties.
In Irvine—which, at 23%, counts the highest vacancy rate of any OC medical office market—a recently built, three-story medical office building is hoping to get deals done well below its developer’s initial expectations.
Irvine Medical Arts LP, the owner of a 63,000-square-foot office building in the Irvine Spectrum, filed for Chapter 11 bankruptcy in mid-2009. Its reorganization plan was signed off by the local bankruptcy court in July.
Corona-based Vineyard National Bancorp held a $22 million loan on the building at the time of the filing and was the largest debt holder. Vineyard’s assets were taken over by California Bank & Trust, a unit of Zions Bancorporation, last year.
California Bank & Trust is now owed about $10.4 million, according to court documents.
Prior to the bankruptcy, office condominiums at the site—near the soon-to-open Hoag Hospital Irvine and Kaiser Permanente’s Irvine hospital—were being marketed for about $440 per square foot.
Now, the developer is required to sell off its remaining condos at the project at a minimum price of $276 per square foot, according to an April forbearance agreement filed with the bankruptcy court.
The developer’s hoping to complete sales at its project within six months.
There are other Irvine properties in flux, according to market watchers.
MacArthur Medical Campus, a roughly 70,000-square-foot, two-building project at the corner of MacArthur Boulevard and Red Hill Avenue, is said to have gone back to its lender, Wells Fargo Bank, about a month ago.
Redhill Realty Fund LP, part of Costa Mesa-based Net Development Co., redeveloped the buildings into a medical office campus a few years ago, but had minimal sales to show from its efforts.
The developer bought the buildings for $17 million. It used to be home to operations of French aerospace company Thales Group, which relocated elsewhere in Irvine.
There’s no word yet on Well Fargo’s plans for re-listing the campus. n
