Publisher’s Letter (November 2006)

The consolidation situation

INDUSTRY REMAINS FRAGMENTED DESPITE RECENT M&As

Dear Reader:

In his darkly comic 1992 bestseller, “Snow Crash,” author Neal Stephenson painted a grim picture of the near future. Corporations were in charge of almost every aspect of daily life – not only business, but also government and even religious institutions. In this bleak but witty social satire, there had been so many mergers and acquisitions in the United States that just a handful of companies owned pretty much everything.

With the recently flurry of M&A activity affecting the healthcare real estate market, one might wonder if this industry is headed in that direction.

Earlier this fall, Health Care REIT Inc. (NYSE: HCN) announced that it plans to acquire Windrose Medical Properties Trust (NYSE: WRS). Just last month, Health Care Property Investors Inc. (NYSE: HCP) closed on the acquisition of CNL Retirement Properties Inc. – which had itself acquired two-dozen medical office buildings (MOBs) and 55 percent of DASCO Cos. in September 2004. And in the latest mega-deal, CB Richard Ellis (NYSE: CBG) just announced plans to acquire Trammell Crow Co. (TCC), including the Trammell Crow Healthcare Services unit.

(For more on that transaction, please see “’Status quo’ for Crow” on Page 1 of this edition of Healthcare Real Estate Insights^™.)

And, of course, there have been several other mergers and acquisitions and portfolio sales on a smaller scale.

Does this mean the healthcare real estate industry is headed for a major consolidation? I can’t predict the future. But as HCP’s own statistics suggest, that day is probably still a long way off – if it ever happens.

In its presentations to investment banks and institutional investors, HCP likes to show a PowerPoint slide that states there is potential for consolidation of the fragmented ownership of healthcare real estate. The sector is undergoing “institutionalization,” according to the massive healthcare real estate investment trust (REIT).

However, later in the same presentation, HCP notes that only 2 percent of the $750 billion healthcare real estate market is owned by REITs, compared with 12 percent for the more mainstream types of commercial real estate: office, industrial, retail and multifamily. HCP’s point is that there is plenty of room for further consolidation of healthcare real estate assets before the sector even approaches the level of REIT ownership for other commercial real estate.

It’s a valid point – and HCP might need to update those slides a bit to bump up the percentage of REIT ownership in light of some of the recent deals. But even if REITs eventually accumulate 12 percent – or even 15 percent or 20 percent – of all healthcare real estate assets, I’m not sure I’d call that a consolidation.

Just look at the mainstream commercial real estate market. Sure, there are plenty of big players. But it would be impossible for a handful of firms to capture a dominant market share on a national basis. There are too many properties – more than enough to ensure that thousands of real estate firms and investors will continue to have an opportunity to do business in that space.

Clearly, the enormous amount of capital commanded by publicly traded healthcare real estate companies is having an impact on asset values and capitalization rates. But while it’s interesting to speculate on whether some of these recent transactions are the harbinger of a major industry consolidation, the healthcare real estate industry remains highly fragmented, and that’s not likely to change anytime soon.

Murray W. Wolf, Publisher