Kevin O’Neil leads rapid growth of TCHS

TRAMMELL CROW HEALTHCARE SERVICES HAS BECOME A MAJOR PLAYER SINCE 2002

 

By John Mugford

 

In formally launching a designated healthcare division back in 2002, mega-sized real estate firm Trammell Crow Co. (NYSE: TCC) jumped into the industry full-bore – as outsiders probably would assume a company of such magnitude would do.

Just four years later, Trammell Crow Healthcare Services (TCHS) has about 550 people working solely in healthcare real estate. The workload is quite impressive, as TCHS provides leasing and management services for about 12 million square feet of medical office building (MOB) space, as well as about 18 million square feet of clinical facilities space.

The company also has about 1.5 million square feet of healthcare projects under development. Since 2002 has built, or currently has under construction, about $1.9 billion worth of medical real estate. It has also acquired anywhere from 700 to 800 acres of land for health systems during the last two or three years.

Leading this vast healthcare effort is Kevin O’Neil, who has been with Trammell Crow for about 19 years. Prior to becoming the senior managing director of TCHS, Mr. O’Neil helped land and directed Trammell Crow’s real estate activities for Dallas-based Baylor Health Care – a relationship that, in part, led to the launching of the healthcare unit.

After graduating with a degree in history from Williams College in Massachusetts, Mr. O’Neil worked for a few years at Scottsdale Memorial Hospital in Arizona. After an eight-year stint with PriceWaterhouseCoopers, he joined Trammell Crow. He estimates that he’s spent about 10 years of his 30-year career involved in healthcare related services.

Recently, Healthcare Real Estate Insights^™ had the chance to chat with Mr. O’Neil about Trammell Crow’s immersion into healthcare, as well as some industry trends affecting, among others, healthcare systems.

HREI™: Under what circumstances did Trammel Crow actually launch its healthcare concentration, Trammell Crow Healthcare Services?

 

O’Neil: Well, our first piece of healthcare business was actually in 1998, 1999, when we did work for Baylor Health here in Dallas. When you first pickup a healthcare client, you don’t call it a group. But as that part of your business grows and you say, “Hey, we’ve got six or eight clients now.” That’s when it starts to look like a business. We really started focusing on healthcare as a business line in about 2002.

 

HREI™: But you had picked up major healthcare clients earlier than that?

 

O’Neil: Right. We had gained a couple of major healthcare clients starting back in 1998 or 1999, with one major client, Baylor Health Care here in Dallas, and two others in 1999 or 2000. Those were the major backbone relationships for us. In addition to Baylor, we had the Group Health account and the Swedish (Health Services) account, both in Seattle. We started with some clients who, to this day, remain our largest and most successful accounts. We really hit a growth stride in 2002, 2003.

 

HREI™: How did that growth happen? Was there an impetus?

 

O’Neil: What happened is that we focused in a more balanced way on all of the things that the Trammell Crow Co. can do for these hospital systems. Initially, our focus was almost completely on outsourcing, almost exclusively on facilities and management – where clinical and non-clinical space would be turned over to Trammell Crow to run and operate. Yet, while we have three clients that we started with in that way, it’s a slow way to grow the business. If you compare that to the development of a medical office building, it’s a much more compartmentalized, simpler decision for the hospital system.

 

HREI™: Could you explain what Trammell Crow’s initial work for Baylor Health entailed?

 

O’Neil: We served as a development owner’s representative for a Baylor heart hospital, the 210,000 square foot Jack and Jane Hamilton Heart Hospital. It’s a short-stay, specialty hospital with a physician-joint venture structure. We did that in 2000 and had success with that, and we rolled into facilities and project management for, at that time, 6 million square feet. Today, it’s 8 million square feet – all things having to do with facilities and real estate are under our management. So for Baylor we’re building hospitals, we’re building medical offices, we’re managing hospital space and medical office and clinical space. It’s a full-service relationship.

 

HREI™: So, that was how Trammell Crow Healthcare started. Is that different from what you do today?

 

O’Neil: It’s evolved to the point where we basically sit down with a client and say, “What service area do you need assistance in? Do you need help finding land for a new campus? Do you need help building a new hospital, or a new medical office building? Or do you need help improving the operations of your facilities from a project management side?” What we’ve found is that when we went at these clients from a more holistic way, they had an easier time making a decision about, for example, building a 75,000 square foot office building than they did about turning over 100 people on a clinical and non-clinical facility outsourcing. We moved from being predominantly focused on facility and project management to providing all of the elements on the value chain.

 

HREI™: So, as far as Trammell Crow is concerned, the size of your company does matter?

 

O’Neil: We’re able to sit across from a chief operating officer or a chief financial officer and essentially say, “Those things that you do on the real estate and facilities management side, we’ve got the resources to do all of them. You build hospitals, we build hospitals. You lease and manage medical offices, we do that. You develop and own medical office buildings, we do that as well.” Hospital systems find themselves inadvertently in the real estate business, and we ask them where they need help or don’t feel comfortable. If a company is just an MOB developer and walks in and says, “We’re an MOB developer,” and they say they don’t need an MOB, then the meeting’s over. But we often find that a more consultative sale can take place when we tell them all of the things we can do.

 

HREI™: So this is how Trammell Crow Healthcare has grown?

 

O’Neil: Definitely. We’ve gone from six clients to 40 clients from 2002 to the present. That growth has been spurred by what I would describe as the more holistic business plan that takes advantage of Trammell Crow being a full-service real estate company. When you’re a billion dollar or two billion dollar system, there are times when you really are well served by a local firm. But there are also times when, if you’re looking at doing something big and something that might be tricky, it helps to work with a billion dollar real estate firm with 7,000 or 8,000 employees.

HREI™: Is there a typical size of your clients? Are most of them the larger systems?

 

O’Neil: I think that when we first enter a market, we look for market leaders. So if you look at our clientele, Swedish is the leader in Seattle, Memorial Hermann is the leader in Houston, Baylor Healthcare is the leader in Dallas. We find that the largest institutions are looking for a big, national, heavily resourced company like ours – they like to know that we’ve got that research bench of 7,000 or 8,000 people.

HREI™: Do have smaller clients as well?

 

O’Neil: We do, and we’re very pleased to serve them. I would say that 30 to 40 percent of our clients are not market leaders, not billion dollar systems. Typically, we would start with the market leader and as we gain our expertise in that market we do not approach the No. 2 system – from a competitive that doesn’t work. But we would approach the No. 5 system that has two campuses and likes the fact that you’re doing work for, as an example, Cleveland Clinic. Cleveland Clinic doesn’t look at the No. 5 system as a competitor, and the No. 5 system likes the idea that you work for the No. 1 player.

HREI™: You talked about buying land for system. Is land banking a fairly new trend?

 

O’Neil: It’s something that I see as a trend. If you look at the way hospitals used to operate in bigger cities, there was the idea that one system had the east end of town, another had the western side, and everyone was very collegial about it. But today the market is much more competitive; there’s no place for the good ol’ boy approach. And where it really comes to a head is in the growth markets. Hospitals have to look to those areas for future growth, and controlling land is a way of controlling their destiny. Today’s growth market is the established place you want to be 20 years from now.

 

HREI™: Talk a bit about Trammell Crow’s wholly owned healthcare fund, Partners Health Trust. What has that meant to the business?

 

O’Neil: It certainly has facilitated our MOB development business. When we talk about where growth is going to take place for a healthcare system, we can say that we can bring capital to the table on top of our extensive development services. A deal can involve Trammell Crow money with Trammell Crow as a general partner, with a co-investor. For investment reasons, PHT doesn’t report to me. It has a separate chain of command and is led by a strong leader, Tom McNearney. Before starting that, we’d worked on it for several years, both on the business plan and interviewing a variety of capital sources. But PHT has been up and running since early 2005 and we’ve already got $250 million worth of commitments – either buildings that are in the portfolio or deals that are committed upon building completion to go into the portfolio. We’re targeting that as a billion dollar fund by the year 2010.

HREI™: Does Trammell Crow, perhaps along with Partners Health Trust, structure MOB developments with physician ownership? And if so, how does that structure take shape?

O’Neil: We sure do. We do private placement memorandums and a lot of doctors co-invest and a lot of systems co-invest. As a rule of thumb we maintain a majority interest in the properties. If we’re putting our equity in a deal, we want to be sure we’re able to make the real estate decisions that we need to make to ensure it’s a good investment. We generally look for a floor commitment of 10 percent. It’s typically not worth going through the physician equity situation unless it’s at that 10 percent level. And we try not to have that go above 49 percent. Those are our basic parameters for physician equity.

HREI™: In the relatively short time that Trammell Crow has formally had a healthcare entity, what are some of the biggest changes you’ve noticed in the industry?

O’Neil: Quite a few things have changed drastically from a real estate, capital markets perspective. Clearly, the investor’s view of medical office has changed dramatically. It’s gone from being perceived as a special asset class to almost a core investment. And that’s reflected in the way in which people are applying cap rates to the purchase side. Cap rates are very competitive, especially in light of the fact that many of these deals are on a ground lease and come with many control features.

HREI™: How does this drastic change impact Trammell Crow?

O’Neil: For our co-investor, it moved us from being predominantly focused on large portfolio deals to being more focused on one- or two-asset purchases. Or maybe we buy two buildings and build two buildings. We would do that instead of look at a 30-firm, heavily shopped killer cap rate deal where you really wonder where you’re ever going to make money. I’ve got to tell you the pricing on these things is tough right now. That’s why we’re more development oriented right now, and we really didn’t anticipate that coming in. At one time, we thought the investment fund would be 50 percent development and 50 percent portfolio deals. But now it’s more heavily weighted toward development.

HREI™: What challenges do you see facing healthcare providers?

O’Neil: The healthcare systems continuously find themselves in situations where they need to make more investments than they have capital. Those investments are medical technology, information technology, people investments, program investments, and bricks and mortar. So I think the biggest challenge is to have the ability to be strategic, know where to put the capital that’s available, and then determine how to deal with the rest of the program that isn’t served. Do you engage a third-party developer and use other people’s money, or do you do it by leasing medical equipment instead of owning? The other thing that hospital systems must deal with is this dual relationship with the physicians, where on one level they are their friend and partner, but on another level they are potentially, in certain lines of business, a competitor.

HREI™: You’ve talked about rising costs in construction, and mentioned energy costs. What’s happening there?

O’Neil: In certain markets the energy bills have gone up 20 percent, 30 percent, even 50 percent. And these buildings run three shifts, 24 hours a day, seven days a week. And many of the uses within the building are intensive utility uses. Whether it’s radiology equipment, or whether it’s on the surgery side. For some of these large, billion dollar systems it’s not unusual for them to have a $40 million, maybe even a $50 million utility line item, in total – gas, electric, everything. We’ve really put a lot of time and effort into developing a well-thought out plan of attack to help with energy issues.

HREI™: And what about construction costs? We keep hearing about all of the headaches because of escalating costs.

O’Neil: Just raw materials have increased in the 15 to 20 percent neighborhood, and it’s caused by everything from Hurricane Katrina, demand in China, and finite supply with lots of demand. It’s everything from global to the need to rebuild in Florida and the Gulf Coast. People can just bid their prices up. There are situations in Florida where general contractors won’t hold their prices for more than two weeks, because their subs can’t hold prices. Labor is uncertain and material prices keep going up. You can’t sit down and say you think prices will rise 2 percent per year and here’s my bid. Florida is tricky right now, and so is California, but the country is fairly stable, but expensive.

HREI™: Okay, time for a couple of personal questions. Your resume shows that you have a degree in history? Did you have plans to use your history degree as a career?

O’Neil: (laughing) No, I went to a liberal arts college with plans that I would go to graduate school. I was thinking it might be law school, but it ended up being an MBA (at Arizona State University). I contemplated an MHA at one point because I working in hospital administration right out of college, at Scottsdale Memorial.

HREI™: Tell us a bit about your family.

O’Neil: Well, it’s all healthcare in the O’Neil family. My wife, Paula, is an RN at a Tenet hospital here in town, and my older daughter works for a company called Early Childhood Development as a child life specialist. And my other daughter is in college at a small liberal arts school in Austin called St. Edwards.

HREI™: Away from work, what do you enjoy doing?

O’Neil: Well, we have a lake house about 60 miles from here, and there are a couple of nice golf courses there. So whether it’s boating out on the lake or playing golf right around the lake, that’s kind of how we decompress. I like losing golf balls, and I’m good at it. And we like to host friends and family down there, and get real good usage out of it. We enjoy traveling, too – we just returned from a ski trip to Colorado, which is our usual winter getaway. q