Host of factors cost possible delay of PPH expansion

By: ANDREA MOSS - Staff Writer | Saturday, May 26, 2007 10:41 PM PDT ∞

ESCONDIDO ---- Hospital and construction industry experts said last week that they fully understood why rapidly rising construction costs might have Palomar Pomerado Health officials thinking of postponing some parts of a major expansion.

Hospital district President and Chief Executive Officer Michael Covert has said that delaying the remodeling of two patient towers at Palomar Medical Center and other parts of the overall expansion would help by giving the district time to pay off or refinance revenue bonds that Palomar Pomerado took out to finance other construction projects in the 1990s.

Doing so would free up some cash now being used for bond payments and put the district in a good position to borrow new money to finish the expansion, he said. In the meantime, Covert said, the district could lock in today's prices on some construction materials and secure inexpensive labor for the future work while continuing to use the medical center and even add services to it, thereby getting some insurance for future cost increases.

"We still have to cross some t's and dot some i's," he said. "But this is what our thinking is at this point."

The district would not ask voters to approve any new general obligation bond measures like the $496 million one passed in 2004, said Covert.

Russ Valone, president and chief executive officer of San Diego-based MarketPointe Realty Advisors, which tracks and analyzes trends in the real estate industry, said Thursday that the situation Palomar Pomerado Health is facing is just a microcosm of a much wider problem.

A worldwide building frenzy has stretched supplies of construction materials and labor thin, driving up construction prices at an unusually high rate, he said.

"The issue today is not only in Southern California, it's not only California, it's not only the nation ---- it's a global issue," Valone said. "They compete for the labor pool; they compete for the material pool. And those labor costs and those material costs have gone up."

Covert said that building after Hurricane Katrina and the small number of contractors qualified to handle projects as complex as a hospital contributed to cost escalation. Furthering the problem: That rate is already much higher than the standard inflation rate the district used in factoring its original estimates.

While there is a chance prices would go down or at least level off by the end of the delay, Covert said it would be risky to assume that would happen.

The hospital district's chief financial officer said that the district has at least one other option available to it: borrowing more money to cover the cost increases along the way, so the entire project can be completed on its current schedule.

"I'm continually assessing market conditions, our ability to issue debt and what we can afford," said Chief Financial Officer Bob Hemker. "If something says it makes sense to do something, I'll ask the board to jump at it."

Costs jump 53 percent

The board approved the expansion ---- whose central piece is the construction of a hospital in Escondido ---- in 2004. The plan also calls for Palomar Pomerado to double the size of Pomerado Hospital in Poway, renovate Palomar Medical Center in downtown Escondido and build several satellite medical clinics.

District officials planned to carry out the project in phases and to complete it by 2014.

The postponement idea came up last week after Covert said that rapidly escalating construction costs have pushed the expansion's price tag to $1.15 billion. The figure is 53 percent higher than the original estimate of $753 million and 17 percent higher than a revised estimate made public in late 2005.

Covert said the new price tag could be trimmed by holding off parts of the expansion by a few years. Some of those parts may include renovations at Palomar Medical Center in downtown Escondido and construction of auxiliary buildings associated with a new hospital, planned for the Escondido Research and Technology Center.

The second phase of the expansion of Pomerado Hospital in Poway could also be drawn out longer, Covert said.

He has said the delay would get the rest of the overall project's cost down to $988.3 million. Although the figure is $5 million more than a revised estimate given to the board in late 2005, district officials have said Palomar Pomerado could trim costs in others areas to come with enough money to fill the smaller gap.

Too many projects

The proposed hospital accounts for most of the total price tag. The 453-bed facility is now expected to cost $811.3 million, up from an original estimate of $531 million.

On Thursday, Covert and Palomar Pomerado's chief architect, Mike Shanahan, said 5 percent to 6 percent annual increases were factored into all the original estimates, because the rate was what is typically seen for either construction labor or materials. The year after the plan was approved, though, the annual rate of increase jumped to 20 percent and stayed there, they said.

"No one, and I mean no one, was predicting that type of increase," Covert said.

At the same time, he and Shanahan said, construction materials and labor became more scarce and much more expensive to procure in California, compared to other areas. The two men blamed the problem on a number of factors, including a state requirement that California hospitals be retrofitted so they can withstand major earthquakes, rebuilding efforts that became necessary in New Orleans in the wake of Hurricane Katrina, and a development boom that has given birth to hotel, school, office building and other types of building projects across the United States.

Valone confirmed the trend and said it has left everyone who is building anything competing for the same construction materials and labor pool. Those supply and demand issues have caused building prices to skyrocket, he said.

Escondido city officials experienced some of the same type of sticker shock with a new police and fire headquarters the city wants to build. The project's cost was estimated at $51 million in 2004.

In January, city officials revised the price tag to $60 million after downsizing the project by 10,000 square feet.

Contractors' market

California Hospital Association spokeswoman Jan Emerson said her organization, which represents hospital districts throughout the state, became so concerned about rapid construction cost escalations that it paid San Francisco-based market research firm Davis Langdon to study the issue "so we could get a handle on it."

The results, posted on the association's Web site, found the cost of building a hospital in this state went from $330 per square foot in January 2003 to $550 per square foot in January 2006. That works out to an average annual increase of nearly 19 percent.

Covert and Shanahan said California's strict regulations for its hospitals have added to the cost of building such a facility. Getting all the state approvals needed for a new hospital typically takes at least two years, they said, though the state recently agreed to fast-track Palomar Pomerado's designs as part of a new pilot program designed to shorten the approval process.

The limited number of contractors qualified to handle large projects like a hospital complicates the situation further, industry insiders said. Faced with California's earthquake standard, many of those qualified contractors prefer to take on other types of jobs or travel to other states for work, raising the cost of securing a contractor here even more, said Covert and Shanahan.

"It would be cheaper for us to go build this in Arizona and try to put it on a flatbed truck and bring it to San Diego if we could do that," Covert said.

Addressing problems

Scripps Healthcare spokesman Don Stanziano said that Scripps has encountered some of the same problems Palomar Pomerado officials are citing. Scripps is adding on to and remodeling several of its San Diego-area hospitals, including one in Encinitas.

"Everybody's building, everybody's got a project," said Stanziano. "And it's true up and down the state. Because we all have these (seismic) deadlines to meet by 2015. So, the contractors who can bid on these type of projects, a lot of them are busy. That leads to escalated prices."

Rudolph and Sletten is serving as construction manager for Palomar Pomerado's expansion. Joe Hook, vice president of estimating for the company's Southern California region, said his firm is trying to address some of the cost escalation problem by securing contractors earlier than usual and involving them in the design process.

The approach has been somewhat successful because contractors like the idea of having a say in that part of the project and feel it helps lower their risk of running up against state objections to some part of the job after it has broken ground, Hook said.

Rudolph and Sletten also has been trying to lock in the costs of future work now as much as possible, on Palomar Pomerado's behalf, he said.

Contact staff writer Andrea Moss at (760) 739-6654 or amoss@nctimes.com.

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