Commercial Real Estate: Vital Signs

Atlanta's medical office market has a strong pulse, but the heart could be weakening.

Jarred Schenke

August 28, 2008

I t's a big gamble for Trammell Crow Co.

The developer - now a subsidiary of CB Richard Ellis Group Inc. - has spearheaded its first medical office development in the metro area in affluent Johns Creek. So far the group has Medical Arts I underway, a 100,000-square-foot medical office building (with plans for a second one) as part of the 18-acre Woodlands Park development.  The doors to the building will open in January. 

And it's going forward without a single commitment from a tenant, says Spence Searcy, Trammell Crow VP.

It does have what Trammell Crow hopes is an unbeatable selling point: Woodland Park adjoins the new Emory Johns Creek Hospital on Hospital Parkway and off of McGinnis Ferry Road.

"We believe being associated and being next to such a high-profile hospital is very important," says Searcy,  "Especially for physician groups."

The Emory name brand is so important, Trammell Crow is in talks to get Emory to name Medical Arts I an Emory medical building. That kind of cache would certainly help in leasing efforts, Searcy says.

Trammell Crow is the latest developer to roll the dice catering a facility to the medical industry.  In recent years, Atlanta development stalwarts such as Carter - with the Piedmont West Medical Office Park near Piedmont Hospital - and Ackerman & Co. - with a string of new medical office parks, including Perimeter Town Center in Dunwoody - have, or are in the process of building, medical office buildings throughout metro Atlanta. 

Many experts say the growth has been justified by fundamentals as demand for medical services continues to expand.  And by that virtue, medical office properties have performed a little better in recent months than the general commercial real estate market.  But others caution that, while still fundamentally healthy, some areas of Atlanta may be getting tapped out.


Atlanta's Love For Healthcare
The underpinnings for strong, long-term medical and dental growth are in place.  Coupled with strong population and income growth has been an explosion in healthcare spending across the board.

Between 2000 and 2004, personal healthcare spending jumped more than 38 percent in Georgia, from $29.7 billion to $41 billion, and it tallied an average annual growth rate of 7.2 percent since 1991, according to the U.S. Department of Health and Human Services.  That growth rate trumped the national average of 6.7 percent for the same period. 

Much of the growth in healthcare expenditures in Georgia was fueled by physician and clinical services and dental services.  From 2000 to 2004, Georgia residents saw a 40 percent increase in physician and clinical services spending, from $7.9 billion to $11.2 billion.  And the average annual growth rate of these expenditures was 7.2 percent since 1991, compared to 6.4 percent for the nation. 

Dental service expenditures followed a similar growth curve, with a 37.5 percent growth rate in expenditures from $1.6 billion 2000 to $2.25 billion 2004.  The state's annual average growth rate in this field has been 8.7 percent, compared to 7.1 percent for the nation since 1991.

And per capita expenditures on healthcare rose as well. Georgians saw a per capita healthcare expense increase of 27 percent, from $3,600 to $4,600, compared to a 30 percent increase for the nation, from $4,000 to $5,200 per person.

Per capita spending for physician services increased nearly 30 percent from 2000 to 2004 (from $972 to $1,257 per person), compared to the national average of 31 percent (from $1,023 to $1,341 per person), and demonstrated an annualized growth rate of 4.8 percent since 1991, compared to 5.2 percent for the nation. 

At the same time, per capital spending for dental services bloomed 26.5 percent in Georgia, from $200 to $253 from 2000 to 2004, compared to a 25.9 percent increase in the U.S., from $220 to $277.  And the state's annualized growth rate since 1991 trumped the national one, with 6.2 percent compared to 5.9 percent.

Since 2005, developers have added an average of 206,800 square feet per quarter of new medical office space to the market, according to CoStar Group Inc.  And for the most part, leasing of that new space has kept pace.  Average quarterly absorption for that period (meaning more space was leased by tenants than left empty) was 153,900 square feet - demonstrating a slight imbalance between supply and demand. 

Despite that, the rents medical office landlords have been able to command has risen during that same period, from $20.78 per square foot to $22.23 per square foot, a 7 percent increase.

Todd Perman, president of Healthcare Real Estate Advisors in Atlanta, a division of Lynx Real Estate Inc., says Atlanta's healthcare spending boom has been driven largely by the region's population explosion.

"You had a million more people here in just the last eight years alone," Perman says.  "Your growth is largely predicated on the idea that there's simply more people here.  I don't think we're sicker."

Docs Think Like Wal-Mart
Medical office growth in Atlanta also has been fueled by a mind shift within the medical community itself.  For years, physicians and medical groups clustered in major medical nodes, often around major hospitals.  Patients were expected to drive out to visit their cardiac specialist or their orthopedic surgeon. 

But over the past decade, that's changed.  Many medical groups have begun to open multiple offices in farther reaching areas of metro Atlanta - in essence, following the rooftops that retailers do, says Tom Kirbo, partner with Kirbo Properties Services in Atlanta, a developer who caters some projects towards physicians, including Parkbrooke Professional Center, a 25,000-square-foot medical office building in Cherokee that has partially been leased by Northside Pediatrics and Adolescent Medicine.

"It's a function of where the rooftops are," Kirbo says. "These groups started out somewhere, and grew where they originally started. As the rooftops moved and spread out they wanted to be with them."

With managed care reimbursements continuing to shrink, medical groups are resorting to attracting more patients, and that's very difficult to do with a single location.  Plus, physicians also have followed affluent, population centers in Atlanta with money to pay out-of-pocket for some procedures.

But in commercial real estate circles, making a successful go at a medical office development can be difficult.  Barriers to entry are higher than the average office project:  physician space requirements tend to be smaller on average, deals take much longer to come to fruition, and location and visibility have become a premium for medical groups.  That has many developers attempting to market and lure major medical groups as anchor tenants in the hopes that once the major basic providers have signed on, the specialists will follow. 

And doctors aren't necessarily bullish anymore to grow, says Kevin Ehringer, vice president of Ackerman Medical, a division of Ackerman & Co. with more than 750,000 square feet of medical office space completed or planned for the metro area, including Camp Creek Medical Center and Rockdale Medical Center.

"They're still concerned about the economy," Ehringer says.  "Every one of them has a little doubt in the back of their mind."  And that just may be enough to slow the growth for the near-term.

"It's a bit of a herd mentality with physicians," Searcy says.  "We feel like the healthcare industry ... is going where the demographics are strong."

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