Capital Markets and Development Prospects are Bright Spots for 2012; Aging Facilities Pose Challenges

Healthcare reform is creating a growing sense of uncertainty that will build in 2012. This will have an increasingly significant impact on strategic business plans for healthcare systems. It will spill over into portfolio and cost rationalization activities and the allocation of capital at hospitals across the country.

Certain areas of the industry are in fact harnessing that uncertainty. They are planning medical office and outpatient facilities that foster physician alignment demanded by reform.  Planning will progress steadily forward over the course of 2012, moving from “talk” to action, at levels not witnessed in 2011.  Health systems with the capacity and resources see this in two ways:

  • a necessary action to adapt to healthcare reform
  • a competitive advantage acting as a first mover.

M&A Activity Plays into the Hands of Investor Appetite

Hospital merger and acquisition activity will be a major theme in healthcare in 2012. This activity involves hospital to hospital combinations as well as highly prized physician practice groups.  But with M&A activity comes with a lot of real estate baggage.

In completing a merger, the healthcare organizations will look for ways to

  • create operational efficiencies and
  • rationalize their footprint to best serve their mission.

All of this is done while reducing the annual capital spend.  The net result is realigning their real estate portfolios. That takes planning as systems carefully evaluate how they are aligned with their business and operational strategies.

This will lead to strong levels of activity in the areas of

  • dispositions,
  • monetizations and
  • sale-leasebacks

The good news is there continues to be strong investor demand for healthcare related real estate, and we expect the product sector to remain much in demand in 2012 as the broader economy continues to struggle to re-energize itself. The proven track record of healthcare real estate through downturns and the compelling demographics of the sector will keep propelling activity and pricing levels throughout 2012.

While no asset class can be considered recession-proof, based on past performance and future projections, healthcare real estate is be about as ‘recession-resistant’ as possible which makes it a preferred class today.

Outpatient Care Opportunities are Areas for Optimism

In planning for accountable care, the industry continues to experience ongoing evolution. It is moving away from the planning and development of in-patient facilities to outpatient and ambulatory care settings that offer greater community access and lower capital and operating cost.

Healthcare reform keeps uncertainty a constant theme. The industry is responding to that uncertainty. Very few systems, or developers, are prepared to go full bore with plans. The pipeline of new projects is more limited than before. The planning and financing processes take a great deal of time, so other than obvious requirements, the activity may be muted for some time.

There is a bright spot:  outpatient facilities. Hospitals and healthcare systems remain committed to expanding their footprints outside of their main structures and into the communities they serve.

That market is coming back, and the design and funding of these facilities is evolving:

  • Gone are the 40,000-square-foot “doc in the box” facilities that used to be the industry model.
  • Now, it is not unusual as you aggregate services from larger employed physician models, to see facilities designed and developed that are in the 100,000-square-foot to 200,000-square-foot and up range.  This design and scale is more apt to attract capital and at lower cost levels than smaller and less creditworthy projects.”

Future planning for new medical office buildings will remain the busiest area of the business as hospitals and health systems look ahead, strategically, to have plans in place for when they can pull the trigger on a new project.

Planning and Performance are Critical

As hospitals and health systems look to expand into the communities they serve, enhance operational efficiencies and ultimately improve the bottom line,

The connection between real estate and operations will intensify, and planning will be even more critical to success.

Hospitals need to perform better and increase throughput. They need to do that without expanding capacity. That means a challenge: do more with less.

But with all that challenges healthcare, chief among the questions healthcare executives are asking is, “For which future should we prepare?”

Deferred Investments Loom Large: Aging Facilities Face Operational Challenges

Executives face considerable investment-related decisions related directly and indirectly to the physical plant.  The industry’s physical plant continues to deteriorate. Many hospitals and systems across the country have had to defer maintenance issues or initiate short term fixes to delay the inevitable. Why? Because of:

  • the financial struggles caused by reimbursement cycles,
  • the cost of funds and
  • other financial and operational factors

Average age of plant (an accounting measure relating accumulated depreciation to depreciation expense) tells the tale. It is the metric which best predicts the health of our facilities. By investing more into the plant, even at incremental levels, an institution can buy down the age.

Therein lies the problem … the average age of plant has risen nationally all but one year in the last decade.

Many institutions have had to ask―and will continue to have to evaluate―whether they are investing enough to at least maintain the average age. Unfortunately, in most cases, the answer is no. This has created a looming overhang.

We had hoped that with the investments of the last decade these problems would mitigate. But the steep decline in investment the last three years has us right back where we were 10 years ago. Further, the issue is not going away.

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