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Micro-Hospital real estate – Six key considerations

1. What is a micro-hospital?: A micro-hospital is broadly defined as a fully-licensed, semi-acute inpatient facility with anywhere from 15,000 to 50,000 square feet and five to fifteen inpatient beds which provides typical “core services” including an emergency department, an inpatient pharmacy and lab, and imaging. Other additional services include women’s services, dietary services, primary care and surgical services. Micro-hospitals seek to provide services at a lower cost to patients as compared to similar services performed at a larger hospital facility. Additionally, these services are provided 24 hours a day, seven days a week.

2. History, Current Supply & Key Players: Emerus is the nation’s first and largest operator of micro-hospitals, with 28 micro-hospitals currently in operation nationwide and 20+ new facilities under development through joint-venture (“JV”) partnerships. Emerus’ JV partners include Baptist Health System, Baylor Scott & White, SCL Health, Dignity Health, the Hospitals of Providence, Saint Alphonsus, Integris, Allegheny Health Network, Memorial Hermann and Baylor Health Care System.

Although Emerus was the first, many operators and developers have since entered the micro-hospital sector. An overview of some recently developed micro-hospitals is discussed below:

  • Baptist Health runs six micro-hospitals out of San Antonio;
  • Baylor Scott & White opened its eighth location (Summer 2017) in Grand Prairie, Texas. “Baylor Scott & White and Emerus officials have worked with Duke Realty to develop and open six other emergency medical centers between 2014 and 2015 in the Texas cities of Keller, Murphy, Rockwall, Burleson, Colleyville and Mansfield.” Their seventh location in Colleyville, Texas comprises a 20,000-square-foot facility with seven emergency department (“ED”) beds and eight inpatient beds.
  • CHRISTUS Health opened Louisiana’s first micro-hospital in 2017, with CHRISTUS Health Shreveport-Bossier's CEO, Isaac Palmer, quoted as saying "The days of us building 200,000-square-foot hospitals are over."
  • Dignity Health has one micro-hospital in Phoenix with another on the way and four “neighborhood”/micro-hospitals opening by Q2 of 2018 in Las Vegas.
  • The Franciscan Alliance (headquartered out of Indianapolis, Indiana) recently constructed a 20,000-square-foot facility for $12 million. The facility features 12 emergency exam rooms and eight inpatient beds, along with a full-service pharmacy and lab, with CT and MRI imaging.
  • Hospitals of Providence opened a 40,000-square-foot micro-hospital in Horizon City, Texas (outside of El Paso) on September 6, 2017 through a joint-venture partnership with Emerus Holdings;
  • Integris Health reportedly plans to open at least four micro-hospitals in Oklahoma City (far west OKC, northwest OKC and Del City) over the next two years with each facility featuring eight to ten emergency treatment bays and eight to ten inpatient beds. Integris’s Moore micro-hospital will be 50,000 square feet and is set for a completion date of January 2019;
  • SCL Health has developed four “community hospitals”/micro-hospitals in Denver with their typical size being approximately 38,000 square feet (their Southwest Facility opened in May and features two operating rooms).
  • St. Luke’s Health System is planning to supplement its existing hospitals with four plus micro-hospitals featuring eight to ten beds.
  • St. Vincent Health has plans to build four micro-hospitals with “seven private emergency rooms, including one for trauma patients and four in-patient rooms for as many as eight overnight patients” per facility.

3. Design, Construction, & Cost: According to the Advisory Board, the cost of building a micro-hospital varies depending on the number of beds and type of ancillary services offered. However, construction typically ranges from $7 million to $30 million. Although no two micro-hospitals are the same, the Dignity/Emerus design has a standardized two-story facility described as follows: “design generally involves a first floor that is a hospital with 10 beds per facility with some outpatient capabilities, and then the 2nd floor is ambulatory services like primary care, some imaging, and others.”

Emerus markets their “Prototype Facility” as an independently licensed hospital with 30,000 to 60,000 square feet (including hospital and MOB space) with eight ER beds and eight to ten patient beds. Their facility is open 24/7 and staffed with board-certified ER physicians and offers on-site x-ray, CT, ultrasound, and lab. Generally speaking, the cost to construct a micro-hospital represents a fraction of the cost to construct a full-scale hospital, though the per square foot price can be similar. VMG Health has independently benchmarked real estate development costs associated with micro-hospitals and has found a wide range of per square foot development costs, with variances depending on factors such as interior finish-out, size, local labor costs, and type of services provided.

4. Affiliations & Financing: Many healthcare providers choose to partner with an existing micro-hospital developer. However, others elect to build micros “using existing internal facility development capabilities.” CHRISTUS Health is one organization who “plans to build a micro-hospital with its own resources to fill service gaps in an area rich in outpatient services, but lacking inpatient facilities.” However, from a service perspective, “most are associated with not-for-profit systems and align with major hospital values.”

Multiple sources of funding exist within the micro-hospital sector beyond typical bank financing. Financing options include, but are not limited to: taxable and tax exempt bond financing, HUD financing, REIT financing, credit tenant lease (CTL) agreements, build-to-suit arrangements, and sale/leasebacks. Health systems should carefully consider various financing alternatives and potential development partners to ensure the most appropriate development strategy and financing vehicle is selected. Real estate analysts must understand the specifics behind each micro-hospital transaction or development project in order to derive meaningful insight from the sale or development of a new micro-hospital.

5. Regulatory Considerations: Similar to a traditional, full-scale hospital, micros are subject to regulations and guidelines. In September of 2017, the Centers for Medicare & Medicaid Services (CMS) published new regulations which potentially affect micro-hospitals. Survey & Certification Memo 17-44 provides guidance pertaining to the statutory definition of "hospital" and whether a hospital is "primarily engaged" in providing inpatient services. S&C Memo 17-44 also provides clarification related to the average daily census ("ADC") and average length of stay ("ALOS"). Essentially, CMS has required that, for a hospital to be accredited, the facility must have at least two active inpatient beds at the time of survey. The Social Security Act requires that hospitals billing Medicare must be “primarily engaged in inpatient care—they can’t just have one bed and the rest is an emergency department.”

Depending on the structure of the transaction, Stark & Anti-kickback can also be implicated when a micro-hospital is being developed as part of a JV whereby the partnership entities are in a position to refer patients to one another. Potential private inurement must also be evaluated for facilities developed by non-profit health systems which are developing or operating new facilities with for-profit partner entities or other outside investors.

6. Valuation Considerations & Strategic Perspective: As the healthcare system increasingly emphasizes value and an increased percentage of patient care is delivered in outpatient settings, micro-hospitals represent a potential area of growth, particularly in locations where inpatient and emergency services are needed but demand is insufficient to warrant construction of a new, large acute care facility. Due to the specialized construction of micro-hospitals, the potential "dark" or "as vacant" value of the real estate can be significantly below development cost. Within the real estate sector, cap rates, coverage ratios and prevailing per square foot construction costs and sale prices are specific to the micro-hospital sector; comparable data for the valuation of micro-hospital real estate should be selected accordingly. If a lender or real estate investor is analyzing the real estate associated with a micro-hospital, it is critical that the unique regulatory environment and construction requirements for micro-hospitals be appropriately analyzed. The specific market and operational projections for a micro-hospital must also be considered, along with applicable state and federal regulations. In situations where Stark and/or Anti-kickback are implicated, appropriate due diligence should be undertaken to ensure that all components of the transaction are within fair market value parameters.

For more information, please contact:
Victor McConnell, MAI, ASA – victor.mcconnell@vmghealth.com
Anne McGinn – anne.mcginn@vmghealth.com.


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