Distortions in a segment of the commercial office market: the case of medical office buildings

ABSTRACT

This article examines the U.S. market for Medical Office Buildings (MOB), a segment of the office market that has received little attention in the academic literature. Our attention is directed towards the impact of Certificate-of-Need (CON), a set of state level distortionary public laws that regulate health services planning. With respect to real estate, we find CON regulations increase rents and sales prices medical office building (MOB) rental rates. What makes these findings particularly interesting is that none of the states that currently have CON legislation in place have any language restricting MOB development. The empirical findings suggest that there is a supply constraint due to CON that has a distortionary effect on the MOB market.

KEYWORDS:

• Office markets
• public policy
• distortions
• medical office buildings

Acknowledgments

The authors wish to thank the CoStar Group, Inc. for access to the principle data used in the analysis. Constructive comments were provided by attendees to the American Real Estate Society Conference in San Diego, CA April 2017. All errors and omissions are the responsibility of the authors.

Disclosure statement

No potential conflict of interest was reported by the authors.

Data Availability Statement

The principle data for this study can be accessed through a contractual agreement between the academic researcher and CoStar Group, Inc. The corresponding author is contractually prohibited from making the data directly available.

Notes

1. CON regulates the supply of medical facilities and imposes higher compliance costs that are capitalised into the costs of construction.

2. There is substantial literature on the scale economies and network benefits of agglomeration in the healthcare industry. See Baicker and Chandra (2010) for examples.

3. The selection of MSAs is based on the goal of obtaining a representative sample of cities in states with or without CON laws. This sample is sufficiently diverse to provide confidence in the external validity of the results.

4. Although base rent quotes do not represent actual contract rents, or more importantly the effective rents, they are the best estimates available. Further, we focus on the spread between MOB and POB base rents. The assumption that the spreads on the base rents are indicative of the spread on the actual contract or effective rents is reasonable.

5. Co-Star evaluates and rates properties using a five Star scale based on the characteristics of each property type, including: architectural attributes, structural and systems specifications, amenities, site and landscaping treatments, third party certifications, and detailed property type specifics.

6. Bryk and Raudenbush (1992) provide a detailed explanation of the HLM method. The methods are mathematically similar to economists’ ‘random effects’ models.

Additional information

Notes on contributors

Allen C. Goodman

Allen C. Goodman is a Professor of Economics at Wayne State University where he focuses on health economics and urban economic structures.

Brent C. Smith

Brent C .Smith is a Professor of Real Estate Finance in the School of Business at Virginia Commonwealth University and holds the co-star Group Chair in Real Estate Data Analytics.