Key Considerations When Purchasing a Vacant Surgical Center

3 keysA surgical entity’s real estate is of paramount importance to its success because, without it, surgeries will not be performed, patients will not be administered treatment and business not conducted. So, when a medical property such as a surgery center becomes vacant for one reason or another, it is necessary that a tenant or buyer formulate a creative new strategy similar to that of when the surgery center was realized.

To ensure that a strategic initiative pertaining to the entire property occurs, a healthcare real estate professional experienced in design and surgery center facility construction will review the plans and inspect the facility as built. Commonly, it will be necessary to include space planners or medical facility contractors to verify the adequacy of the spatial, mechanical, plumbing and electrical systems.

MREA has collaborated with design and construction professionals in an effort to provide several key facility issues that may be considered when purchasing a surgery center.

Updating the Facility

From a buyer’s perspective, a first step is to determine if design regulations have been amended by the accrediting body after the facility was constructed, or, whether the facility will receive exemption under the original approvals. Depending on the property’s location, you may have to update the facility to meet current regulatory standards. Bear in mind, there is a greater likelihood of a requirement to update the center if it discontinued operation -prior- to facility changing hands. Additionally, if you will be seeking accreditation, the requirements of the accrediting agency should be addressed.

More often than not, the updates necessary for a surgical facility to gain accreditation are the leading cause for properties to fall out of favor and remain on the market for a considerable period of time. If considering a vacant surgery center for purchase, a plan will need to be exposed to all principals to assist in dissemination and implementation of such regulatory alterations for the consideration of time and money.

Patient Satisfaction & Safety 

If updating is not mandatory, patient safety and satisfaction should be considered when deciding whether or not to upgrade a facility. Whether or not it has been accepted by local authorities, if the emergency power system is overloaded and does not function properly during a power failure, patient safety may be compromised.

The design and condition of the mechanical, plumbing and electrical systems should be evaluated by knowledgeable engineers. HVAC systems can be particularly problematic with respect to regulatory compliance, infection control, patient safety, and physician comfort. Backup power systems should meet code requirements in accordance to regulations.

A common item that is ignored is the continuity of fire and smoke partitions, particularly in concealed locations like above ceilings. These are common targets in life safety inspections and often are the source of deficiencies, especially in aging facilities.

In addition to design issues, the condition of major building components should be evaluated. HVAC equipment, emergency generators, and roofing have finite lives and can be costly to replace. A healthcare real estate consultant will be able to comment on this matter, and may recommend inspections by local maintenance contractors.

Case Volume

A surgery center is designed to serve the capacity of an anticipated case volume. It is necessary to review the plans to determine if the internal facility components such as pre-op stations, ORs, procedure rooms or post-op beds are adequate to support these anticipated figures. Each ratio will differ based on the specialty served at the location.

The average size surgical center is currently around 12,500 square feet and the trend is that they will become more efficiently utilized in the future. As an example, if a medical organization is doing 100 cases a month, more than one operating room (OR) is likely not necessary.

CONTACT US

If you should have any questions regarding this material or are interested in leasing or purchasing a surgical center for use or investment, contact MREA at 713.701.7900.

Medical Office Buildings: A Class Of Its Own

Ninety-nine percent of real estate service platforms consider office and medical office one in the same. They are not. There are numerous differences between medical office space and standard office space. The most obvious are rental rates, expenses, tenant mix, construction costs, tenant improvement allowance, and building features such as elevators and parking. In addition, the proximity and the financial condition of an adjoining hospital should be examined. These examples do not even begin to touch upon the intricacies within the healthcare system itself, which is of unique consideration when purchasing a medical office building.

Medical office buildings (MOBs) are deemed “specialty use” real estate. From our perspective, many lenders will consider financing MOBs, but most lack the experience in transactions or simple dealings. Thus, identifying capable players within this asset class is critical. Whether traditional debt, fully amortized structures or even shorter term, higher leverage deals, the MOB is becoming a greater diversification tool for lenders and investors alike.

While government involvement has had a tremendous impact on the past, present and future of the healthcare industry, demographic changes that include an aging population and a increasingly informed and health conscious society is guaranteed to increase demand for years to come. Consolidation will remain a continuing trend for practice groups that lack association with stronger, more diverse physician networks and/or hospital systems. This will have a negative impact on buildings with small, not very well connected and/or aging physician groups.

As for funding, financial sponsorship remains essential to MOB transactions, especially off-campus assets. Here, owner-occupied doctor groups or hospitals themselves receive favorable underwriting treatment. The commitment to their investments and their businesses will be of tremendous importance. Of greater impact is sponsorship that features a commercial real estate firm or private equity company who joint ventures with tenants. Some of the most aggressive lending structures are dedicated to this type of partnership.

Lenders prefer on-campus MOBs, however locating and underwriting these investments can become complicated due to bond financing or land lease issues. Thus, finding the medical office property within the tight radius of the hospital might just be as easy to work, if not easier.

In terms of the lender’s perception of the development and ownership of real estate, a lot has changed after a strong run in the middle of the last decade. Healthcare is no longer deemed recession-proof and, without government support (loose term), it instead operates like the majority of for-profit businesses which became severely impacted by the credit crisis of 2008/09.

While this distinct type of investment is certainly not immune to the juggling act that is supply and demand in a highly levered world, as the economy rehabilitates, the medical office building is becoming one of the most aggressively sought after asset types within the healthcare real estate sector. Call 713-701-7900 to request assistance with one of our several MOB opportunities.

10 Reasons To Utilize a Healthcare Real Estate Provider

Call MREA to promote your property offering directly to active medical professionals and qualified healthcare real estate investors!

Top Ten Reasons Our Clients Like Our Platform (as surveyed by MREA):

  1. Reduce Closing Costs
  2. Slash Days on Market (DOM)
  3. Receive Qualified Tenants or Buyers
  4. Increase Showings
  5. Eliminate Unsophisticated Brokers and Offers
  6. Improve Confidentiality
  7. Access Capital for Projects
  8. Joint Venture with ‘Like’ Interests
  9. Initiate Strategy for Reform
  10. Access Knowledgeable Vendors

The most comprehensive healthcare database of real estate solutions belongs to MREA and our talented medical real estate advisory. Call us at 713-701-7900!

Effect of Rising Interest Rates on Commercial Real Estate

We admit it is dangerous territory to talk about rising interest rates, especially when predicting a potential up or down movement. We have not come anywhere close to the topic over years of participation within the commercial real estate sector.

Around 2005, there was heightened speculation that interest rates would rise and the undoing of commercial real estate would begin. It never happened. Seven years later some of those same properties are trading at double that of 2005 prices.

So, why are we touching on this subject today, especially given the number of forecasters whose speculative predictions became fodder for news pundits and critics? Well, with the stock market improving without real improvement in bond yields, due in part to the Fed buying bonds and keeping rates artificially low, one of two things will likely occur; the stock market will drop or treasury yields (and their correlation to interest rates) will move higher, or both. Both should be moving in relative tandem, yet, they are not. There are several factors that we have explored that explain this phenomenon, but we will stick with what we know.

Interest Rates and Their Correlation to Commercial Real Estate

Interest rates are percentage rates at which interest is paid by a borrower for the use of money that they borrow from a lender. When speaking about the potential for rising interest rates in the future, we should mention their impact on capitalization (cap) rates, a simple measure of return that fuels commercial real estate investment decisions and demand. Similar to interest rates, a cap rate is a percentage of yield that an investor seeks when purchasing a rented property, along with the property itself. To simplify, total the income from the tenant(s), subtract the expenses of operating the property; you get X. Now, determine the price that you are willing to pay for the property; you get Y. Z is the cap rate.

X divided by Y = Z (convert to percentage, ie. .0845 = 8.45% cap rate). This is the annual percentage yield that an investor expects to earn by investing in the entire property with tenant. The longer the lease and/or strength of the tenant, the lower the cap rate and higher the price an investor is willing to pay.

If you were to observe a historical chart that featured treasury bond yields, a leading indicator of interest rates and then cap rates, you would notice that these move in succession, one following the last. From beginning to end, the move may take 3-4 years. With any sudden jolt to lending rates based on poor economic circumstances, historically it takes a longer period of time for investor cap rates to catch up. Because we suffered through the worst recession since the Great Depression, along with the banks reluctance to move assets off the balance sheet and investor demand very weak, cap rates are still in limbo.

This said, with interest rates at all time lows, asking prices, and their correlation with cap rates, sit at levels where most real estate investors (and some banks) just aren’t comfortable. Now the US has found its footing, will investment demand might switch roles and lead interest rates higher? We think so!

Whether you believe the government response to the panic was appropriate or not, we feel if distressed properties were released shortly after the 2008 stock market collapse, cap rates would have climbed higher as fewer investors would be bidding. This would have created the commercial real estate “shoe to drop” and ultimately led to a significant US economic restructuring and global depression.

By controlling the process, the Fed has essentially allowed national and global participants the time to multiply to create enough demand so that economy and commercial real estate stabilizes and leads interest rates in the future. So, and as the Fed indicated, they will keep fed funds rate low until 2014; no big deal. Global investment demand will determine where we go from here and it is guaranteed that mortgage interest rates will begin their rise this year.

Medical Office Performance Update

Understanding the advantages of a medical office property can provide stability to an otherwise risky real estate investment portfolio. The uniqueness of this commercial property type makes it a favorable investment, especially throughout ‘down’ economic cycles when stability, rather than overexposure, is sought to balance a portfolio. This, as evidenced by investments in 2008 and 2009, a few of the strongest years for medical office investment in decades and, notably, the worst for other commercial sectors happens to be the most recent phenomenon.

As for today, when greater threats appear to loom on the horizon and political strife sits at its highest plateau, and as office and industrial properties attract greater attention due to an improved economic position in the U.S., the healthcare sector’s investment has seen a moderate decline in volume of transactions. Most experts suggest that early-to-mid 2013 will see a resurgence of capital into the medical office property as hospitals seek to monetize real estate to offset costs associated with administrative growth, a precursor to healthcare reform.

So, depending on the current status of the property, and given a 12-month window with which to lease, redevelop or stabilize the property, the direction chosen today will likely determine if the property has the potential of resale during the next cycle.

What should you be familiar?

It starts with our research. Keen insight begins with dedicated research resources that provide for the persistent investigation into changes in physical relocation and current and future regulatory implementation. Our employed fact-finding & intelligence unit corroborates their mined data with paid, less reliable online resources and government data. While the cost of obtaining information remains high when paired to its return on investment, the overall collaboration of multiple data channels remains essential for the specialist whose clients require the most candid data for appurtenant decision-making.  So, investigation into your premises is a first step to understanding potential referral patterns and tenant mix to maximize valuation.

Second, and of greater importance to sale of the asset, the medical office opportunity should have a hospital nearby that demonstrates economic strength mainly through specialized services that provide for in-house referrals, physician growth and collaboration. Orthopedic, Cardiology, Women’s Services and Gamma Knife procedures have been lucrative hospital services and, in turn, have provided for higher effective rental structures throughout these medical office buildings. While a property will fluctuate in transacted sales price, such services attract higher capital investment because of hospital’s strength from physician services and specialties. Thus, you can see where healthcare reform, and its proposed focus on volume, rather than profitability, has the potential to water down hospital revenues and, ultimately, potential sales prices.

Another factor to consider is the area’s residential growth of the 3-mile radius. What is the rent to own ratio? Younger or older demographics? Household income? Over the past few years, investment has sought properties that provide for economic stability through employment and demographic growth. This trend will continue until it is known whether healthcare reform provides to be a viable investment alternative or an epic failure in a time of the state’s and nation’s budgetary complications. Remember, older and wealthier populations still utilize the majority of healthcare services and are more likely to see a physician out of want, rather than need, which will continue to guide investment.

When analyzing how a medical office property will/can perform, it is essential to seek guidance from a qualified professional team dedicated to the industry.  Our associates maintain years of exceptional, professional service to the Texas medical communities and with an expansive proprietary database, widely recognized as the best in the business, we hope you will seek out our firm for your medical office building needs.

This post was written by Robert S. “Bob” Lowery, Managing Partner of MREA | Medical Real Estate Advisors.

Stop, Go, Stop, Go, Stop…Go!

2012 is shaping up to be a good year for commercial real estate practitioners with a recession now becoming less of a reality.  By simply observing search queries that funnel to this blog (by no means an economic indicator), it would appear that we will see steeper interest in the consummation of land purchases for proposed developments, as well as the disconnection of locked down building construction plans.

It is our responsibility to observe and record trends on how the money migrates within commercial real estate sectors to properly advise our clients within health care.  And, over the past few years, we have remained exceedingly cautious in advocating large, speculative investments into the sector.  As my financial advisors always remind me, the trend is your friend and the trend remains down.

But, as the stock market has remained trapped in a trading range for more than a year, coupled with a stable outlook for real estate investment trusts (REITS), where pent up demand has the potential to make a bold re-emergence, our interest, as well as our clients, is certainly improving.

As for a simple analysis on capital migration, the last year+ has witnessed investor interest rocket higher in areas such multifamily and farmland with, and without, fundamental, long-term supportive cases for upside to continue within the either sector.  See, one investment type can be characterized as deflationary and the other inflationary, and both are highly speculative with the potential be burned if the glut of homes is efficiently dealt with and economy/dollar stabilizes.

This type of investment activity implies that money is burning holes in the wealthiest of investment capital and/or non-domestic capital is playing a larger role than is being reported.  In any case, this risky capital allocation suggests that once a firmer footing in the economy is gained, the beaten down sectors within commercial real estate sectors will see tremendous activity.

What are indicators that suggest money is moving into commercial real estate?  Certainly, studying the largest investment houses is important, but also leasing activity through tenant relocation or expansion is another.  From a middle market perspective, we believe keeping an eye on investment in land by seasoned developers or JV interest in more speculative plays could be the catalyst in determining when to enter the neglected business investment sector.  For instance, if news publications get a hold of large plots of land or large urban infill tracts transferring, it may be time to contact your brokers again.

Until then, we are all running the red light.

Ambulatory Care Centers: Growth in 2012?

With 2011 coming to a close and the healthcare building boom in a second year of cautious or tabled expansion plans, we want to highlight a growth model that will hold a significantly greater amount of real estate discussions in 2012, especially from community hospitals:

Ambulatory Care Centers.

Ambulatory Care Centers, by our definition, are locations that provide personal consultation, treatment or intervention through medical technology or physician procedures that occur all in the same day. Medical treatments for illnesses, including surgical and medical procedures such as dental, dermatological and diagnostic, emergency and rehabilitation occur in ASCs. These centers are cost-effectively and beneficial towards performance, patient reliability and satisfaction.

From the hospital’s perspective, ambulatory care centers can be highly lucrative, allow it to differentiate from its competition, improve patient satisfaction through proximity and preventative measures, as well as align physicians with hospitals (especially in areas where physicians live).

And reform, if implemented, should accelerate the growth of ambulatory care services and the need for more integrated care hubs.  While a city such as Houston, where our firm is headquartered, has witnessed expansive growth in the ASC model and may not see as large of an impact, other cities where the population is shifting to, not away, with competing hospital systems should be beneficiaries of the expansion of Ambulatory Care Centers.

Reasons: As patients are forced to become more aware of their health, and physician incomes continue to decline, the need for hospitals to offer more localized and convenient care will be essential for the hospital’s long term growth. The ambulatory care system can accomplish this by shortening ambulance and patient travel times, preventing hospital overcrowding, providing same day care and increasing patient & physician convenience and satisfaction.

The strategy should be well organized to include service line analysis and strategy.  This will evaluate the services presently offered with the services that expand screening, prevention and care management.  Also, and along the same line, a comprehension of how changing technology, reimbursement and regulation affect future services at the ambulatory care center will be essential to creating a successful center.

Under reform, it will be very interesting to see how a potential influx of new money, and new regulations, will affect the medical and healthcare real estate industry’s growth as medical service providers. With a US economic climate that will remain fragile in 2012, to which we expect greater job losses, private and government, an injection of capital into the healthcare sector should present some opportunities across the board, instead of a tapered decline in the sector.  One thing is for certain, investors will be hungry for government-backed healthcare real estate…just take a look at how US Treasuries have performed.

Surgery Centers: From Concept to Completion (1 of 2)

Surgery Centers are once again in the forefront of healthcare real estate investment discussions.  The reason can be viewed simply.  Investments from hospitals and fully leased medical facilities did not come to market as originally thought when the recession and health care reform were making everyday headlines and curtailing growth plans for the entire sector.  So, as shareholder interest began to subside, and as capital burns holes, investment interest is moving back into this unique sector of real estate.

Thus, developers are actively searching for physician-investors to initiate (or complete) their thoughts of participating in a surgery center investment.  This is exciting news for the building industry, most of which have gone unnoticed for a several years.  But issues are still abound, especially with building costs relatively unchanged since 2008. So, the costs of building are still somewhat prohibitive and have been one of several factors that have kept some on the sidelines.  But, with investors willing to pay a greater amount than the structure is worth, some looking for strategic partnerships prior to building, this sector is receiving a great deal of interest from investors.

Cost Breakdown

A surgery center, shell and interior, can be between $150 per square foot to as much as $300 per square foot, let alone land costs.  Any addition or reduction from the initial construction estimate could severely impact physician interest.  For example, if 1,000 square feet was necessary for an additional operating room to assist a few physicians, $150,000 to $300,000 in additional construction costs would be necessary, not to mention additional operating costs. Designs have been going back to the drawing board in many situations and any addition or reduction in square footage could cause a change in the function of the building, especially for a fragile physician base that is concerned about future business profits.

Building New or Existing

There are some advantages and some disadvantages when building on a completely new construction site. For example, if you select a previously constructed building, the architect will have existing structures which may somewhat limit the facility design, but, conversely, all site development work will have been done and paid for, and construction time may be substantially reduced.  In the flip side, retrofitting existing structures can reduce construction costs but prove devastating if due diligence and architectural redesign are not performed properly.

Standards of Construction

Those who have not previously developed Ambulatory Surgery Centers typically will find that ASC construction is the not the same as medical office building construction.  In fact, the two types of structures are fundamentally and structurally different. And, because of the potential life-safety concerns, a single city inspection is becoming replaced by multiple inspections at the city, state, and federal levels.

Federal Regulation

On the federal level, a limited amount of construction data may be found in the Code of Federal Regulations-Ambulatory Surgical Services.  We find that most consider the “Guidelines for Design and Construction of Hospital and Health Care Facilities,” produced by the American Institute of Architects, the standard-bearer for construction of ASCs.

State Regulation

When a layman performs an online research on construction standards for Ambulatory Surgery Centers, unfortunately, they will find little uniformity among the states. Some states have no regulations regarding Ambulatory Surgery Centers, while other states have quite lengthy regulations which include facility standards. Some states have adopted national construction codes and include a virtual itinerary of codes for ambulatory surgery center construction.

Construction Team

Often we tend to think of a construction team simply, beginning with a general contractor, when in fact the surgery center team consists of several more contributing members. The architect, the engineer, and on occasion, structural and civil engineers will play a role in surgery center development. The cost for each of these team members may increase the overall construction costs, but is likely necessary component to a fully functional facility.  An ASC is a complex facility which requires special attention and experience on the part of the entire design team.

General Contractor

When selecting a contractor, always search for one who has performed similar medical projects, preferably Ambulatory Surgery Centers. It is essential to verify the references of your general contractor, AND that of the proposed subcontractors to ensure they meet healthcare requirements. The construction process can be a lengthy process, and at times uncomfortable, so be careful when selecting a relative or acquaintance as your contractor.  The point person on your project should be the construction superintendent and not necessarily a good friend.

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This post is an abbreviated version of an entire article written by Robert S. “Bob” Lowery.  For the complete article, please contact our office or your local Texas MREA representative.

Valuing Medical Real Estate on Cap Rates…Fuggedaboutit!

Physician and investor ownership of medical income property still sits as a relative newcomer on the expansive list of commercial real estate investments, which includes office, retail, industrial, among several others.  All-in-all, there may be over 100 specialty and categorical types of commercial real estate investments if broken down by industry and tenancy (single, multiple).

Commercial real estate brokers typically will arrange all investments alike, utilizing a simple formula known as cap rate pricing so as not to confuse or curtail into any real estate investment type.  But, every commercial property user (from Fortune 500 company to auto repair franchise) and investment (fully-leased hospital medical office building to empty warehouse) is uniquely, comparatively different.  So, to achieve proper valuation the asset needs to be compared directly to those of competitive properties with a percentage emphasis on who transacted, why and how, as well as economic conditions within the submarket, city and national economy.  It is our experience that most buyers and sellers will place a greater weight on certain factors when transacting, especially when motivated by a needs or capital availability basis.  This is botched recipe that has led to the relative uncertainty for our sector as a whole.

So, it takes a skilled eye and real-time comprehension of certain functionality of business and investment types, as well as a wide array of financial and economic data points to properly price and transact in the commercial real estate marketplace.   Unfortunately, just a handful of brokerage platforms adhere to a heightened sense of knowledge and disclosure when advising their clients, primarily due to inefficient formulas for pricing commercial property.  While this is certainly not a testament against commercial real estate brokerage platforms, it is a testament about a vast investment class that in some conversations remains broken based on inefficient pricing mechanisms, one of which includes cap rate pricing.

Example.

A cardiovascular care facility has a Net Operating Income of $100,000, and the sales price for the property is $1,000,000, therefore the cap rate is 10%.  Most property investors, and now physician investors, are becoming more comfortable with this simple strategy of valuing a property for the purposes of an exit basis.

But, what does a cap rate of 10% tell you?  Let’s first discuss what it does not tell you.

A cap rate does not tell you what your return will be if the property requires financing.  With an overwhelming majority of property requiring financing and terms changing daily, what are the costs of capital? Nor, does it appropriately account for tax and interest calculations either. It cannot pit an apples to apples comparison of unique property characteristics.  It does not tell you who, what, why, how or where.  Prior to contracting on a needs or investment basis, it is very important to know the competition in the market and how, why they can transact at certain levels.  Simply doing some quick math to obtain a cap rate does not accomplish this.

If not healthcare real estate, we will be happy to direct you to advisors with a keen eye on the rolling ball.  If your physician, user or investment group needs to determine the price of which to contract in the today’s commercial real estate market, please contact us for a proven transactional formula that may lead to a higher or lower price dependent on a variety of factors.