These are difficult times given capital constraints, a shortage of debt financing, and a poor economy. Hospitals today are facing many factors outside of their control that could have the potential to severely inhibit continued growth.
The current “do-nothing” or “capital freeze” approach many hospitals are taking can be detrimental to their necessary future growth. Today’s economic conditions are certainly not as favorable as they once have been, but though resources are down, needs remain and hospitals must continue to grow.
If projects are put in “freeze” mode for too long, the opportunity to gain future market share and even to keep infrastructures up to-date, can be in jeopardy. Outpatient medical office and other ancillary facilities continue to be essential investments for a hospital’s continued success.
If hospitals take advantage of the resources and partnerships available to them now, there is no reason to wait another year or two before they implement a plan—most likely financing will still be tight in 2011. But the good news is that they can start working with developers that have money available now. Even if a hospital is experiencing a capital freeze, it is the perfect time to interview developers and identify which ones have the resources to help meet their goals.
While hospitals might not be able to raise the capital for a much needed medical office building or other outpatient facility, they can benefit greatly and in a variety of ways by partnering with an experienced healthcare real estate developer.
Even in today’s economy, a strong developer will have access to capital and have the types of relationships with investors and lenders necessary to obtain construction and permanent financing.
The best developers will also have a highly successful track record and will have many examples of recent healthcare projects.
When working with a good development partner, a hospital should not be required to make an upfront investment, assume any debt or even sign a master lease for the space. Many developers will also perform a free and comprehensive project feasibility study before the development officially gets underway.
The chart below shows what has happened to the medical office building financing market in less than two years. Only the strongest developers will survive these changes.
|Loan to Cost RequirementsDebt Coverage Requirements
None or top 15%
Many hospitals are starting to take a closer, more critical look at the services located within their valuable walls. It can be very beneficial for a hospital’s bottom line to work with a developer to shift non-revenue-generating space from within the hospital to a new on-campus MOB.
To take maximum advantage of a new on-campus MOB, hospitals can establish additional revenue-generating services that they previously could not accommodate, such as a single-specialty ASC to drive incremental surgery to the campus, a joint venture imaging center, expand an existing oncology program or establish new specialty outpatient services.
In late 2008, Pacific Medical Buildings (PMB) of San Diego, Calif., partnered with St. Joseph’s of Orange Hospital in Orange County California to develop a new on-campus 130,000 square foot medical office building (MOB) and a 1,086 space parking structure.
PMB owns and manages the new MOB and St. Joseph Hospital has a long-term lease for approximately half of the seven-story facility. This mutually beneficial agreement allows the hospital to maintain control over building tenants, as well as their types of activities and medical-related services. The hospital will utilize its leased half of the facility for a Rehabilitation Center to complement its growing oncology program, a Cancer Registry, Comprehensive Breast Center, Palliative Care support offices and a specialized oncology-related Appearance Center.
According to Tom Hill, St. Joseph Hospital’s Vice President of Operations, “The building has also been designed with the special requirements necessary to house an Ambulatory Surgery Center.” Hill also notes, “The hospital will be able to relocate other clinical functions and support services to the MOB, freeing up valuable space within the acute care hospital that can now be designated for expanded programs and patient care.”
Hill states that the hospital will be expanding its Heart and Vascular Center and nationally recognized Women’s Heart Center in the vacated hospital space.
The new MOB provides better economy over developing new acute care hospital space, making this decision a profitable one for the hospital.
When hospitals expand their market share and establish a presence in a new location, they can become more profitable. And when they can expand their market share by using a developer to finance and build a new off-campus space it can be a winning situation for both entities.
The leaders of Providence Holy Cross Mission Hills Hospital (PHCMHH) worked with PMB on identifying and purchasing land, and developing a new three-story 78,000 square foot off-campus outpatient facility, 15 miles from their main hospital on one of the most prominent sites in the Santa Clarita Valley.
The hospital was looking for a good way to establish a presence in that marketplace, so it turned to PMB for help on the development. PMB performed a comprehensive study for PHCMHH to determine the best site for the outpatient facility, and ultimately chose a corner parcel across from the town center in Newhall as the location. Pacific Medical Buildings served as a true partner in this project. Although PMB owns the land and the building, the Hospital has a tremendous amount of control on what goes on in the building because it leases approximately 25 percent of the space. The facility is home to a surgery center, imaging center, cancer center and the Facey Medical Group. A computerized system for results reporting links the off campus building to the main hospital.
“The size and scope of services associated with the Santa Clarita model can be modified to meet a hospital’s specific business objective,” says Mark Toothacre, PMB President. “The key is to identify a location that is highly accessible to the main hospital, but not so far away that patients and physicians may still elect to use the competing facility. Leasing space to a large medical group or physicians seeking to expand their practice and who maintain a close link with the hospital was critical to the success of this project.”
Ground leases and ground rentals can provide a much-needed infusion of capital. When hospitals are short on capital, a ground lease arrangement with an established developer can be very beneficial. They can use either a ground lease origination payment (GLOP) or ground lease rental arrangement to free up limited capital for inpatient use, physical plant upgrades and other code-required infrastructure improvements.
An average 75,000 square foot MOB requires approximately 3.5 acres of land. If the fair market value of the land is approximately $30 per square foot, the total value of the land for an average size MOB works out to be $4.5 million.
If a hospital chose to take a ground lease origination payment for an MOB that a developer was going to build, own and finance, the hospital would receive an upfront payment for the total value of the land of $4.5 million.
Alternatively, if the hospital prefers to have the payment extended over time, that 3.5 acres land could be leased on an annual basis using a 6 – 8 percent factor adjusted annually for CPI increases. In this example that yearly rent payment would total approximately $270,000 to $360,000.
Other types of tenants can be a beneficial part of the mix. By taking advantage of a very visible and accessible location, a hospital can consider establishing retail space in a building to generate new non-direct patient care revenue.
Hospitals across the country have been including non-traditional tenants such as bistros, coffee shops, fitness/lifestyle management centers, etc. into their MOB tenant mix and have even incorporated some of these tenants within the hospitals themselves.
Currently there is a trend to lease to non-traditional clinical tenants like alternative medicine practitioners including homeopaths, naturopaths and acupuncturists.
The Roy and Patricia Disney Family Cancer Center is a good example of this philosophy. This building houses an integrative mind/body/spirit program for cancer. Besides the traditional services associated with a cancer center, this facility also includes medical office space, a personal appearance, rehabilitation, and a wellness center.
If a hospital has a shortage of parking on its campus, a developer can build a parking structure without capital investment or risk from the hospital.
Pacific Medical Buildings was recently retained by Mission Hospital in Mission Viejo, Calif., to develop a medical office building and parking structure.
PMB’s feasibility study demonstrated the need for 140,000 square feet of medical office space which was anchored by a large multi-specialty medical group. The building required 700 parking spaces (one space per 200 square feet). The campus was short approximately 800 parking spaces, so in 2007 a 1,500 parking car structure was built. The structure was financed and is owned by PMB.
The agreement between PMB and the Hospital provides that all campus-wide parking revenues are co-mingled and are distributed between the two entities. First, PMB receives a sum equal to an 8% return on the cost of the parking structure. The Hospital then gets an equal amount of revenue, and any remaining available cash distribution after expenses are shared equally between PMB and the Hospital.
The tight credit market is a reality, but the fact still remains that hospitals need crucial services like diagnostic imaging to bring in added revenues. For that reason, hospitals are more receptive now than ever before to the possibility of partnering with an outside provider for their advanced diagnostic imaging services.
Outside providers can offer hospitals a wide range of services using a variety of business models. Many companies will even provide an assessment of the marketplace in conjunction with the hospital to ensure that there are enough referring physicians to support it, and enough radiologists to provide the services.
One option outside providers can offer is to form a joint venture on behalf of the hospital, either on campus or anywhere the hospital owns a medical building.
If the hospital prefers it, a “wholesale deal” can be structured where the outside provider leases space in a medical building, finances the tenant improvements, operates and staffs the clinic, while the service remains on the hospital license. The hospital bills and collects for these services and takes a percentage of the revenue.
In either scenario, the hospital gains a state-of-the art imaging center branded with the hospital name without making the commitment to operate the center or to invest any capital in it.
“Given the capital constraints that many hospitals face today, working with Alliance HealthCare Services or another provider like ours, is a natural solution to help develop new advanced outpatient imaging and radiation therapy services,” says Paul Viviano, Chairman of the Board and CEO of Alliance HealthCare Services. “Creating this kind of a structure not only allows hospitals to avoid a capital investment, it also creates a meaningful income stream for them. And because the services are branded with the hospitals’ name, to the patients it is “seamless”– to them it looks as if the hospital owned it themselves.”
Alliance HealthCare Services (AHS) is the largest provider of advanced outpatient diagnostic imaging services in the U.S.
A hospital in Orange County that was short on capital, originally contracted with an outside diagnostic partner to provide a mobile MRI service. As the service got busier, the hospital then asked the vendor to expand to a very successful medical office building (MOB) developed on the campus.
The diagnostic imaging services provider leased a large suite on the first floor of the new MOB with two MRIs and a CT and paid for all the necessary tenant improvements, and structured a “wholesale deal” where the hospital bills and collects and pays them on a per-patient basis.
The partnership has been so successful that the hospital and vendor are currently evaluating adding other modalities like PET/CT to meet the growing demand.
This situation has been extremely successful from a clinical standpoint – the radiologists like it, the medical community endorses it, the hospital benefits enormously from it. The diagnostic imaging services from this outside provider have grown to be a very important part of the medical delivery system in that community.
In addition, this particular instance, the diagnostic partner actually invested with the hospital and became one of six partners in the new 50,000 square foot medical office building. Although this kind of deal structure is not typical, the vendor considered it to be a good investment because their participation was necessary to ensure that the building had sufficient financial backing to be developed.
The economy has changed and with it, the criteria that hospitals should use to choose a developer. It’s even more important today for a hospital to do its homework so that they select a developer that actually has the bandwidth to get the job done in this tough economic climate.
Barry has more than twenty-five years of CEO-level experience managing hospitals in California, Florida and Chicago. Throughout his career, Barry has opened an acute care hospital and developed numerous medical office buildings. Barry brings broad experience to PMB in strategic hospital planning and in developing specialized inpatient and outpatient programs. Barry received a Master’s degree in health sciences and comprehensive health planning from Johns Hopkins University.
For more information contact Barry Weinbaum at 1-800-472-1005, firstname.lastname@example.org.