3 Items To Prepare For When Leasing Medical Space

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hammer cashThroughout the State of Texas, MREA has assisted practice groups and healthcare professionals make the best real estate and space planning decisions for their organizations. Medical space is uniquely separate from traditional office space offering unique challenges that require professional guidance.

While we prefer to remain positive and energetic in our quest for our clients interests, what follows are a few mistakes that are made when signing a medical lease. Our tenant representative team not only helps to avoid such mistakes, but guides our clients through every step of the leasing process to help procure the ideal opportunity. To request the entire list (seven other items), please contact a healthcare real estate representative at 713.701.7900.

The Personal Guarantee
Medical landlords are apt to require personal guarantees. A personal guarantee is a legal contract between a landlord and an individual to guarantee a specific obligation of a business, usually the remaining rental obligation under a lease. Personal guarantees provide the landlord with additional recourse in the event of a default on a lease agreement. The implications of a personal guarantee are significant because personal assets (e.g., house, cars, retirement funds, etc.) are at risk if the party defaults on the lease.

The landlord commonly advises that to hedge against the high cost of the tenant improvements, personal guarantees are required for medical space. Due to this additional risk, a personal guarantee is instituted to provide additional security for the tenant’s full performance of the lease.

While any landlord that chooses to own a medical office building should expect high build-out costs, they should also be familiar with the lower risk associated when leasing to medical tenants. Furthermore, and as a rebut, the rental rate for medical office space is commonly higher to offset the higher tenant improvement contribution by the landlord. For example, the rental rates for medical space are far greater than those of traditional office space.

  • So, if the landlord wants to reduce risk by requiring a personal guarantee, is it fair to suggest there should be a corresponding reduction to the rental rate?
  • Will the interior improvements be specialty or generic? How does this factor into the decision for a personal guarantee as one size doesn’t fit all.
  • Is the medical group a newly formed entity or is there a solid history of financial performance to ease the landlord’s concerns? What role does this play in the landlord’s decision?

If some form of personal guarantee is necessary, there are steps to take to protect oneself and/or limit a group’s exposure. For example, if you are in a partnership with multiple physicians, limiting a guarantee obligation to a specific percentage ownership in the practice is reasonable. Also, one should be have the capability to structure the guarantee so that it declines each year as the landlord’s risk exposure is reduced.

Additional items in negotiation may include a release of the guarantee based on the percentage of the lease or loan paid off, a specific end date for the guarantee, exclusion of certain personal items from the guarantee, and in some circumstances, personal guarantee insurance.

The Cost of Tenant Improvements
Tenant improvements for a medical space can be very expensive. Building out a space to cater the unique spatial needs of a healthcare group can range anywhere from $50 to $250 per square foot, depending on a myriad factors such as:

  • What is the current condition of the existing suite (warm or cold shell)?
  • What is the level of specialized requirements for the group (e.g., plumbing in exam rooms, lead walls for x-ray units, surgery components, etc.)?
  • What are the groups decision for improvement finishes?

It is keenly important to comprehend the current condition of the space and how this will affect the purchasing power of each tenant improvement dollar going forward. A $25-per-square-foot allowance for a second-generation dental practice may be adequate, but the same allowance will barely get you started if you are building out from a “cold shell.” The point is to understand what is present before signing a lease.

The Timeline and Complexity of a Build Out
Just as the cost for tenant improvements varies by practice specialization and current condition of the space, so does the project’s complexity, and ultimately, the timeline for delivery of the finished space. For example, a practice requiring surgical space and digital x-ray units will take substantially longer to design, redesign, permit and construct than a family practitioner’s office which may simply require individual exam rooms.

We typically advise our medical clients to plan for a minimum four-month build-out period in order to design, obtain the appropriate permits, and construct the suite. For expensive and complex medical projects, the build-out period can be closer to one year — some longer. So, it is crucial to deploy the right team of experts from the outset.

Time happens to be the best leverage for a real estate negotiation. If it is not utilized effectively, things will get expensive — FAST.

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Surgery Center Accreditation in the State of Texas

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AccreditedTwenty-six states, including Texas, have jurisdiction for office-based surgery to meet various thresholds. The most common specialties performing office-based surgeries are pain management, plastic surgery and GI. This requirement is typically based on the levels of anesthesia used and/or complication of procedure performed.

To fulfill the Texas requirement for office-based surgery accreditation is not as comprehensive (or exhaustive) as that of a ambulatory surgery center. The advantages for such accreditation can be in the form of quicker third party payment, influence of liability insurance premiums and managed care contracts, as well as positive community image, employee recruitment and morale.

This said, the vast majority of commercial payors require accreditation (above and beyond the state license, as applicable, and always Medicare certification) in order for the ASC to perform within their payor network. Documentation as proof must be submitted with a supplementary application before the request for ASC participation would begin.

In order for a healthcare organization to participate in and receive payment from the Medicare or Medicaid programs, it is required to meet the eligibility requirements for program participation, including a certification of compliance with the Conditions of Participation (CoP) or Conditions for Coverage (CfC) as set forth within federal regulations. This certification is based on a survey conducted by the state agency on behalf of the Centers for Medicare & Medicaid Services.

However, if the state will not provide initial or ongoing Medicare surveys, using a national accrediting organization (AO) is the next step. The will have and enforce standards that meet or exceed Medicare’s compliance certifications. CMS ultimately would grant such accrediting organization “deemed status” to receive payments from social assistance programs such as Medicare or Medicaid. For most types of healthcare providers or suppliers, accreditation participation is voluntary and seeking deemed status through accreditation is an option, but not a requirement.

The property below (scroll) was accredited as an ambulatory surgery center with deemed status through the Methodist Hospital System. It is currently available for reuse for qualified tenancy or option to purchase. Please contact Robert Lowery, the exclusive listing agent for property owner, at 713.701.7900.

Medical Real Estate Development: Location and Site Analysis

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The analysis for a location and site are two separate parameters for which to search for developable land to hold commercial real estate structure. Each type of commercial use, and each specific user, will make special demands for location and site. Access to main thoroughfares may be important to office, retail usage, while population or housing density for apartment usage, or proximity to rail lines or airports for industrial use. Medical location and site analysis tend to combine several of these factors, while consistently rely on proximity to other physicians, hospitals, surgical centers and ancillary services.

To consider a medical location and site in general terms, without specific medical use in mind, a seasoned developer, or user, will look at the following features and devise a way of rating each.

Features for Location Analysis
.
Physical
  • Natural Boundaries and Barriers
  • Manmade Boundaries and Barriers

Usage Patterns

  • Growth Areas
  • Traffic Flows
  • Regulations and Controls
  • Incentives
  • Tax Structures
  • Community Master Plans

Qualitative

  • Neighborhood Image
  • Community Attitude
  • Location Image
  • Surrounding Users

Linkages

  • Employment Centers
  • Retail / Restaurants
  • Road Network
  • Transportation and Shipping
  • Residential Areas
  • Labor Pool
  • Educational Facilities
  • Recreation
  • Customers
  • Municipal Services
  • Utilities
  • Competition

Supply and Demand

  • Population
  • Employment
  • Income
  • Wages
  • Expenditure Patterns
  • Absorption/Vacany
  • Real Estate Prices
  • Competition
  • Traffic Count
Features for Site Analysis
.
Land
  • Size and Shape
  • Front Footage
  • Soil Composition
  • Topography, Slope and Drainage
  • Vegetation
  • Buildable Sites
  • Engineering Requirements

Access

  • Side of Street
  • Medians and Curbs
  • Turn Lanes
  • Deceleration in Acceleration Lanes
  • Traffic Controls

Economic Factors

  • Price and Acquisition Costs
  • Development Costs
  • Taxes
  • Development Fees to Community
  • Municipal Services

Regulatory Factors

  • Zoning
  • Maximum Building Area
  • Required Parking
  • Environmental Issues
  • Permits and Licenses
  • Applicable Building Codes
  • Special Requirements (Buffers, Retention, Etc.)

Qualitative

  • View
  • Appearance

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Locating Medical Real Estate: The Request for Proposal (RFP)

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searchDuring an organization’s planning process, a consideration of how medical space should be acquired will be determined. Whether by lease or purchase, via development or existing retrofit, the option selected should be derived by the real estate’s ability to provide the desired utility at the lowest cost. The financing function will determine how to fund the space acquisition, whether through existing capital, mortgages, or operating lease.

For reasons of flexibility, timeliness, economies of scale, and availability of funds, leasing is a better decision. Otherwise, when cash flows dictate the opportunity to purchase an existing facility, a simple step should be undertaken to diligently search for the property that best fits the criteria.

For the purposes of targeting existing facilities to meet the specified criteria, reduce time, improve clarity, as well as  bargaining position, it is important to utilize a document that is called a Request For Proposal (RFP). This, as a precursor to the landlord’s formal proposal, and which will answer the following general questions:

  1. Who will occupy the space or property?
  2. What type of space or property is required, leased or owned?
  3. What growth space will be required, now or future?
  4. When is space requirement needed?
  5. How long will the current need for such space last?
  6. Where should the property be located?
  7. What are special requirements?

For examples of purchase RFPs, please contact us here. As for acquiring lease space, items to consider in a Lease or Sublease RFP commonly are:

  • Premises requirements (rentable or usable square feet)
  • Term of the lease
  • Commencement date
  • Rent abatement (Free or deferred rent)
  • Rental commencement date
  • Rental rate
  • Escalations or adjustments
  • Improvement allowance
  • Space planning and design services
  • Expansion option(s)
  • Renewal option(s)
  • Property management and tenants
  • Operating hours
  • ADA compliance and access
  • Extended or after hours HVAC
  • Telecommunications
  • Security
  • Parking (# per 1,000 square of rentable space)
  • Asbestos
  • Nondisturbance
  • Response to RFP due date
  • Exhibits (if applicable)

Are you seeking an example of our Medical Real Estate Request for Proposal (RFP)? Require real estate guidance for a purchase or lease of a medical building in Texas?

Contact: 

Robert S. "Bob" Lowery 
Managing Partner
MREA Medical Real Estate Advisors
1200 Smith Street, Suite 1600
Houston, TX 77002

713.701.7900
office@mreausa.com

Critical Medical Lease Negotiation Points

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supportEvery element of a medical office lease can be negotiable.

For the benefit of both the landlord and the tenant, we have highlighted and defined the most frequently negotiated items within a medical office lease.

Alterations: The degree to which the tenant make make physical changes to the premises.

Assignment: The right to transfer the lease to another entity.

Buyouts: A concession where the remainder of the lease is bought out in consideration for tenant to move into another facility.

Common Area Maintenance (CAM): Extent to which tenant is responsible for property upkeep.

Condition of Premises: Repairs to the condition of the property prior to or during the tenants term; what the tenant agrees to change, pay or maintain.

Default and Remedies: Performance of contract and remedies for satisfaction; key areas are property condition, rent payment, and insurance policies.

Deposits: Security for right to use premises; provides financial requirement and interest.

Expenses and Stops: Operating expenses the tenant pays; typically plays role in complete occupancy costs.

Free Rent: A concession typically offered in a challenging market; a discount off of the aggregate lease amount.

Grace Period: Time of consideration of rent payment for purposes of grace, redemption and default.

Hours of Service: Schedule of building hours where tenant will benefit the greatest; access, lighting, HVAC, security and parking.

Lease Term: Determines length of liability, commitment, amortization schedule for both tenant and landlord.

Maintenance: Ongoing repairs or responsibilities.

Measurement: Determination of rentable area vs usable area as well as load factor; used competitively within marketplace to maximize space usage and compare amenities.

For the second half of our post, please visit our website at MREA | Medical Real Estate Advisors or call Kayla at 713.701.7900. For a highly specialized business and real estate platform to serve your unique healthcare-specific needs, contact Robert Lowery, Managing Partner, of MREA today.

Tenant Needs Within A Medical Office Building

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waiting roomAs a truism, the quality of a medial tenant will have a significant bearing on the process of procurement or assignment of healthcare real estate space. This is especially true when considerations are addressed for a tenant that is renewing, expanding, contracting, or relocating within a medical building.

In each circumstance, the overall design of the facility and potential costs associated will account for whether the leasing process will be simple or challenging, on a relative scale. With this in mind, a healthcare real estate advisor has the ability to influence the process positively due to their unique concentration within health care and commercial real estate.

The Renewal

Upon the majority of renewals, the size and layout of the medical office is not altered and the suite design or reconfiguration is avoided. Other times, tenants will request these or other modifications to their space.

Typically, a broker will request the approval of the landlord to determine how the costs will be distributed and who will be responsible. In some cases, the landlord will have budgeted this expense and can absorb the costs. But, most of the time, they will not. Thus, a certain percentage of the cost will be provided. In other cases, the tenant will be responsible for all modifications.

Rental market conditions should dictate who assumes financial responsibility for alterations. To determine market conditions, a good barometer procure a specialist that is educated on the short term availability and effective price of comparable lease space.

The Expansion

Expansion is typically a costly and difficult undertaking for medical tenants. This, due to the increase in overall space, and consisting of additional construction costs, as well as management and accounting requirements. For a tenant to address an expansion request properly, the expenses need to be determined beforehand to limit the administrative liability associated with the request. Space planners or property advisors are very helpful for this logistic exercise. Again, and similar to renewal, the determination of costs should be based on comparable rental market conditions.

One of the main reasons tenants relocate is because their existing floor plan no longer meets the functional needs of the user. Thus, the requirement of expansion should be addressed prior to conclusion of lease. Running up against deadlines will not expedite or provide leverage for expansionary discussions.

If expansion is required in the midst of tenancy, commonly, the lease term will be extended for additional years. Under this circumstances, the costs will be attached to an amended lease and rate will be blended. Another potential outcome may be the continuation of the existing lease and expansionary space rental separated. The former homogenized term typically will favor the landlord, but is generally accepted in investment real estate.

The Contraction

A healthcare space contraction may become necessary because of several factors. Most commonly, it occurs with reorganization, subsidiary or referral base relocating, financial constraint, or regulatory requirement. While this pressure creates an uneasy position for the tenant, the landlord has the potential to react positively through status review.

If contraction request is made by the tenant during the midst of the lease term, a subletting consideration should be addressed via all parties to the original lease. Alternatively, if the contraction request is made towards the end of tenancy, the tenant’s advisors should be aware of the potential re-use of space, any limitations in plumbing or electrical, and costs associated with construction. An expert opinion for the effective contraction of space should be sought.

The Relocation

Too often a medical tenant will need to expand but the adjoining spaces will be occupied. Within most leases, a relocation clause exists that allows the landlord to, essentially, move a tenant into an alternate space. For expansionary needs, this clause may be utilized effectively by the landlord, while hesitantly by the expansionary tenant. To alleviate tenant concerns, the expansion space may include space planning costs, moving expenses, additional rent, and tenant improvements with above standard features.

Customarily, relocating within the building has challenges, but specialized relocation experts can be of considerable service to a landlord or tenant within medical space. The impact of change, via relocation, within or away from a desirable situation, has unique ramifications to both parties to the lease agreement. Understanding the advantages and disadvantages of relocation within a building will provide confidence when addressing landlord/tenant responsibilities.

Planning a Medical Real Estate Development

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Land development for the purposes of building a facility is a complicated process with several stages involving multiple parties and encompassing many financial risks. The process consists of a series of actions from that of land purchase to leasing, construction and sale, but most of the items that pertain to development occur prior to land acquisition.

While the process of healthcare real estate development planning will differ based on medical type, the preferred series of events is one which eliminates risk early through pre-construction commitments for leasing, permanent financing and potential final sale. Prior to initiating the development process, it is necessary to analyze how the development will assimilate into its market. Planning for a medical development requires the consideration of these general principles:

Land Analysis – A potential medical development site has physical characteristics that make it more or less adaptable for a specific use. These include the terrain, dirt composition for land, its shape and size, accessibility, neighboring residential areas and appearance of surrounding land uses.

Planning Commissions – Zoning and city planning will limit certain types of medical development that may be permitted or refer to the process for change to these requirements. An aspect for the approval of a project consists on how the community will accept the development and what will be received in terms of quality, appearance and use. In most cases, developers will be required to identify who the principals are and how approval and how the structure is arranged for project completion.

Market Analysis – Because the market ultimately determines the success or failure of the developed medical project, initial planning should assess demographics, patient or trade area, competitive projects and supply of demand.

Financing – Identifying the potential lenders, equity participants, terms and interest rates, along with the developers level of participation should be outlined early in the process. All too often the original plan is modified or entirely changed by lending requirements.

Uses – While specialized medical development is difficult to reconfigure for alternative uses, determining whether the facility may be re-adapted easily should be outlined early.

Site Selection – Consideration for the medical site’s capacity should includes tests of layouts and site coverage arrangements required by zoning and certain users. Analyzing parking areas, access roads, utilities, floor and common area ratios and building-to-site ratios are specific requirements that will alter the original development.

Highest and Best Use – A few tests may help to determine the feasibility of a medical development for a certain area. Whether the development is physically possible, legally and economically achievable and maximally productive should be applied to the site analysis. This examination should take into consideration development costs, assumptions for financing and potential revenues, and subject to multiple variables.

Development Plan – The healthcare real estate master plan embodies the assemblage of land, the layout of the development and its phases, parcel configuration(s), and ingress and egress from on and off-site components.

Visual Identification – Initial architectural drawings and graphic layouts of the medical project should be prepared to illustrate the results of each item within the master plan.

Financial Proforma – With the specific items and costs identified, the planning unit must ready a financial projection that chronicles such costs, the project’s funding sources, project revenues and investment returns for the entire project.

Marketing Strategy - The marketing procedure chosen for the project will help to identify the project’s place in the market. It will highlight the themes of the marketing plan and provide a strategy for marketing implementation to ensure the success of the project.

Implementation - Lastly, the itemized agenda includes all of the development steps, time management goals, the members to the development and responsibilities of each.

In January 2013, MREA will highlight the process of securing, permitting, construction and potential sale of a medical real estate development. If you have not already, please click the orange RSS icon at the top right of this web log to have our posts delivered to your inbox or preferred reader.