Acquisition and Financing of Medical Office Properties

Otten Johnson Alert October 2009

Recent years have witnessed a great deal of discussion on the attractiveness of medical office buildings ("MOBs"), compared to traditional office properties, as an investment. The aging United States population is expected to result in increased demand for medical services for decades to come. However, prospective buyers of MOBs should be aware of several issues which arise in the medical office context more frequently than in the traditional office arena. 

A hospital can only function if it can recruit staff doctors. Doctors prefer, and their patients may need, the ability to commute easily between the doctors' offices and the doctors' hospitals. Accordingly, doctors are more likely to join a hospital's staff if they can find suitable, nearby office space. So, MOBs are frequently developed by the hospital operators, who retain some control over the MOBs to assure the availability of offices for their staffs. Some MOBs are even constructed within a hospital "campus," meaning the buildings may share driveways, parking lots, and building systems, and may be served by utilities running through the campus. 

In order to maximize convenience, hospital campuses are frequently developed densely and in a manner which would cause the sale of a component, such as a MOB, to violate subdivision regulations. In addition, hospitals often desire to maintain significant control over an "on campus" MOB. As a result, those MOBs are often ground leased. 

Because of the concern that sub-par operation of a MOB will reflect poorly on the hospital or detract from the value of surrounding buildings, a MOB often will be encumbered by private restrictions protecting the hospital. These restrictions might (a) provide purchase rights in favor of the hospital; (b) limit the MOB's uses to those traditionally performed in doctors' offices and prohibit services offered by the hospital, such as surgical procedures or complex imaging; and (c) restrict leases of space within the MOB, such as by requiring that space be leased only to hospital staff physicians, by allowing the hospital to review proposed MOB tenants, or by capping the rent that the MOB tenants must pay. Certain other restrictions and rights may exist, or may need to be added by a purchaser of an on campus MOB, including (x) easements for access, parking and utilities; (y) if the MOB is physically connected to the hospital, the coordination of shared utilities and other services (such as HVAC, telecommunications and data services, and security); and (z) the allocation of expenses of, and obligations to maintain, common areas and shared systems. 

A buyer should anticipate its needs, and its lender's needs, for time to review the relationship between the MOB and the hospital and to obtain estoppel certificates from the hospital and other parties to any ground lease, private restriction or agreement for shared services. Also, many lenders have little experience with MOBs. Those lenders may find themselves re-underwriting loans once they understand how the relationship between a MOB and a hospital impacts the MOB's operation. 

Otten Johnson's Real Estate practice group has substantial experience dealing with issues relating to MOBs. For more information on this Client Alert or on addressing MOB issues, contact any of the attorneys in the Real Estate practice group (for a listing, click here).

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