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February 2007
Healthy Investments
By Ellison Clary

      It was Ralph Waldo Emerson who first spoke of building a better mousetrap. Were the 19th century philosopher with us today, he would praise Cogdell Spencer Inc.

The Charlotte-based real estate investment trust specializes in developing, owning and managing health care properties, including hospital facilities and medical office buildings. Started in 1972 by James Cogdell, its formula proved so compelling that competition forced it to become a public company.
Today, Cogdell Spencer’s portfolio includes 111 buildings in 11 states with 5.4 million square feet of rentable space and another 400,000 square feet under development. It owns 50 properties, manages 57 more and also has four joint venture properties.

Though Cogdell remains very active and serves as chairman, Frank Spencer is president and chief executive and oversees all daily operations.
“Consistent with our mission,” Spencer explains, “we view ourselves as a health care company that focuses on facilities, not as a developer that happens to do some medical office buildings. This company is built around health care development, management and finance.”
Thirty-five years ago Cogdell’s first project was Randolph Medical Park, still operating on Randolph Road near Charlotte’s hospital district. Cogdell invited physicians to co-invest as limited partners in the real estate, not just as project tenants. Through three decades, Cogdell employed that general formula to build and manage medical projects across the southeast.
Perhaps the best measure of the company’s success is that many other investors decided to pursue medical offices. By early in the 21st century, the company that had become Cogdell Spencer needed more investment dollars to keep pace. So it recast itself as a self-advised real estate investment trust (REIT), debuting on the New York Stock Exchange with the symbol CSA on October 27, 2005.
Spencer lays out the reasoning behind the move: Large sums of money were flowing into medical office investment, driving prices up. After considering private equity, Spencer says, the firm decided to go public because it fit the business model.
“We always have bought and held,” he says. “Once we are on a hospital campus, we don’t want to sell our building. We want to work with the hospital to develop the next one.”
“We said we needed permanent capital that doesn’t force us to sell,” Spencer continues. “We wanted to be in charge and make decisions about our assets and our partnerships.”
The REIT market funds long-term growth, operating income and a consistent growth pattern that doesn’t rely on selling assets, Spencer adds.
Jim Cogdell, Frank Spencer and the firm’s management team own about 25 percent of the Cogdell Spencer stock, but those with the company (approximately 118) received shares at the IPO and have some ownership. About a third of the workforce resides in 10,200 square feet in a SouthPark office building on Barclay Downs Drive. The rest of the Cogdell Spencer employees are spread throughout properties the company owns and or manages in cities such as Columbia and Charleston, S.C., Augusta, Ga., Gulfport, Miss., and St. Petersburg, Fla.
“Our commitment to our clients is that everywhere there is a Cogdell Spencer building, there is a Cogdell Spencer employee in it everyday. We believe in a hands-on approach to managing property,” Spencer says.
The mixture of development and management works well. “Most of our fee-based management is buildings that we either developed for clients and stayed on to manage, or buildings that we manage in the context of other relationships,” Spencer says. “At University Hospital in Augusta, we own four buildings on their main campus. We manage another nine buildings and that brings the total to over a half-million square feet under management.”


Becoming a National Company

Cogdell Spencer is quickly growing into a national company. Spencer points to new initiatives in places such as Indianapolis, Ind., Glendale, Calif., and Lancaster, Pa. That growth is possible, he adds, because the company now has the resources to pursue “the right kinds of clients.”
The company seeks mostly non-profit health care institutions with a dominant market share and strong local decision-making. “When you find that combination, you almost always find investment-grade credit,” Spencer says. “Locally, NorthEast Medical Center in Cabarrus County has been a terrific client for over a decade. They fit the mold exactly.”
Dr. Lynn Hughes of NorthEast Ear Nose & Throat Center is certain his practice is better off for its association with Cogdell Spencer. A decade ago, he recalls, the company encouraged him to invest in a new medical office building attached to NorthEast Medical Center.
“I elected to buy into this building and that was the best investment I ever made,” Dr. Hughes says matter-of-factly.

     The new building provided the extra space Dr. Hughes needed because he was adding a partner and it solved a parking problem as well. Cogdell Spencer continues to manage the facility.
“It’s a fine company,” Dr. Hughes says of Cogdell Spencer. “They’re very good at teaching doctors—who aren’t always very good businessmen—about the good business practices that can be readily learned if you’re open to owning real estate. They’re good at explaining it in a way that I can understand.”

       Fully 80 percent of Cogdell Spencer assets are on hospital campuses, Spencer says. “We’re trying to work with the hospitals in conjunction with the physicians.”


Unique Formula

Cogdell Spencer has plenty of competitors like Pacific Medical Buildings in Southern California that “look a lot like us,” Spencer says, but Spencer sees his company as unique.
“We are clearly the only public company that allows physician participation in asset-level investment,” Spencer says. “That’s how Jim Cogdell founded the company and that’s how we built our reputation. We get a franchise location, the hospital gets a new facility without using its own capital, and we give the physicians an opportunity to participate financially in the building where they’re paying rent.”
It’s a formula that Spencer feels is improving health care in the United States. He reels off statistics: Each day 6,500 health care providers see 36,000 patients in Cogdell Spencer facilities and two million people pass through these buildings annually.
What these patients don’t see, Spencer says, is that because medical providers can use Cogdell Spencer capital instead of their own for their physical buildings, they can invest their money in a CT scan or some other enhancement.
“Finally, and perhaps most important,” Spencer says, “we bring physicians and hospitals together in a positive economic venture. There is always some tension between a hospital and physicians. As cost pressure has manifested itself in this industry, being able to provide that positive relationship has become even more important.”
Spencer, son of former Davidson College President Sam Spencer, was a Morehead Scholar as he earned his bachelor’s degree in German at the University of North Carolina. He went on to get a Master of Business Administration from Harvard University where he was a Baker Scholar.
Now 46, his career has included stops at Bank of America predecessor NCNB; The Crosland Company, a leading Carolinas developer; and Children’s Services Network, a public-private venture charged with evaluation and coordination of all services for children in Mecklenburg County, where he served as the first executive director.
He joined Jim Cogdell in 1996, he says, for two reasons. First, he likes providing a service. (At Crosland, he worked in affordable housing among other things.) Second, he saw a lucrative business opportunity, and performance has borne that out.
Yet, Spencer readily admits the company faces challenges. Moving from a private company to a public firm created plenty internal stress. There’s more detailed reporting required in accounting, Sarbanes-Oxley compliance must be documented, and there are compliance audits and public filings.


‘No Longer a Secret Industry’

Externally, he smiles, “We are no longer a secret industry.” A decade ago, he explains, development came almost entirely from existing relationships.
“Well, the world has changed,” he says. “We now compete for projects. Our track record has been good so far, but it really forces you to be more precise, more aggressive in your pricing. That challenge of competition is something we’ve embraced, but it’s clearly a difference in the way we do business now.”
The uninitiated might glance at Cogdell Spencer’s third quarter earnings report and wonder at Spencer’s words. For the three months ended September 30, the company reported a net loss of $2.3 million. But Spencer explains that is a function of depreciation on the buildings that Cogdell Spencer in essence bought when it issued its initial public offering.
“If you look at the analysts who follow the REIT industry, none of them report earnings per share because it’s not meaningful,” Spencer says. “They all look at Funds From Operations (FFO); that’s true cash flow available for dividends or reinvestment.”

Cogdell Spencer reported third quarter FFO of $3.2 million, or 26 cents a share. FFO for the first three quarters of 2006 was $11.3 million, or 92 cents per share.
The company’s future is bright, Spencer says, and is quick to explain why. Assets for the medical office buildings industry are estimated at $250 billion. Yet the market capitalization of all that have invested in it is only a fraction of that number.
“Our total capitalization is just over a half billion dollars and we’re the only public company that’s devoted exclusively to medical office buildings,” Spencer says. “So we think there’s a lot of upside.”
About 80 percent of all U.S. hospital revenues and expenditures still go through the non-profit sector, he says. Yet most investment funds have focused on the for-profit industry because it was easier to identify the large companies.
“We think we’re playing in the large side of the market,” Spencer says. “Right now, we have a development pipeline that is as strong as we’ve ever had. Certainly, in the foreseeable future, we think we can continue to take our model—physician partnerships with non-profit hospitals—and do a lot more business than we’ve done in the past.”
Spencer won’t end an interview without praising “the team effort” that has built the company and explaining why that’s important.
“Jim Cogdell clearly laid the foundation on which this company is built,” Spencer says, “and for 25 years he was the driving force in what happened.” Since Spencer joined as a partner, he continues, he and Cogdell have built the management that runs the firm today.
“The average tenure of the folks that report to me is 13 years,” Spencer says.

That team of six plus Cogdell and Spencer has helped transform the company from Cogdell’s entrepreneurial vision to a firm with an institutionalized process for conducting business. “That team delivers to the clients everyday,” Spencer says, “and Jim and I wouldn’t be anywhere without that team.”

Ellison Clary is a Charlotte-based freelance writer.
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