Chicago, IL -- (ReleaseWire) -- 10/09/2007 -- Medical Office Buildings (MOBs) are one of the more exciting development and acquisition opportunities within the income-property investment arena. However, given today's uncertain financing market conditions, these properties require more underwriting knowledge than other conventional property types (e.g. apartment, retail and office properties).
As such, investors need to understand the key secrets in capturing the most competitive pricing and financing options. These secrets are listed as follows:
• Secret #1 – Finding Capital Sources: Lenders are more selective on reviewing projects (including MOBs), yet liquidity still remains. Life insurance companies are the most active players in the MOB marketplace now for funding existing projects. For the most part, life companies are using their balance sheets and not publicly issuing securitized mortgage debt – the current fear of Wall Street. Mortgage conduits, on the other hand, are still active, but will typically offer pricing at the higher end of the spectrum.
• Secret #2 – Check Pricing: Overall pricing in today's marketplace is within the 140 basis point range to 220 basis-point range over comparable term treasuries for permanent financing. Rates are 5.75% to 6.65% for longer term MOB deals using ten-year treasury pricing. [The Real Estate Capital Scoreboard (www.reci.com) gives a good indication of today’s spreads and rates by property types. MOBs are most similarly priced to regular office properties]
• Secret #3 – Seek Lower Leverage: Most MOB deals are funded within the 180-basis-point-or-more range for full leverage deals based on 70% loan-to-values. Lower-leveraged fundings of 65% or less can dip to 160 basis points.
• Secret #4 – Lock Rate Before Starting Construction: For new construction and substantial rehab, add 20 to 30 basis points to standard MOB pricing to lock rates now with funding reaching out as much as 18 to 24 months. At the moment, however, forward funds are very limited.
• Secret #5 – Bigger is better: Lenders charge an additional 10 to 20 basis points for loans below $10 million.
• Secret #6 – Seek Newer Properties: Properties of seven years or less often capture loan amortization schedules of 30 years; older properties are underwritten within 25-year-or-less amortization schedules. Longer amortization schedules translate to higher cash.
• Secret #7 – Compute Costs and Values based on Loan Underwriting: Rather than using capitalization rates and purchase-price LTVs, lenders now rely on debt service coverage tests for determining loan proceeds. Today, a 120% debt service coverage ratio is the standard for a multi-tenant building. An 8% mortgage constant is typically applied to determine the maximum leverage of the loan. For example:
o If a project has a projected figure of $1 million stabilized net operating income, the cash flow available for debt service would be $833,333 ($1,000,000 divided by 1.20 DSC).
o Thereafter, capitalizing the cash flow available for debt service at an 8% constant equates to a loan amount of approximately $10.4 million.
o Dividing the loan amount by 75% equates to a rounded value of $13,900,000.
o The original $1 million of net operating income translates to a capitalization rate of about 7.2%.
o The return-on-cost target for a new development project should be above this figure, preferably in the range of 100 basis points or more (8.25% or more). In other words, the development should be built based on total costs of approximately $12.1 million or less to be considered a “reasonable” development opportunity.
John Oharenko, an advisory board member of The Real Estate Capital Institute®, suggests that “MOBs are certainly financeable, especially those affiliated with hospitals and other established health-care networks.”
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