Despite strong growth over the past three years, the life sciences sector has not entirely escaped the negative impacts of recent market volatility or the persistent work-from-home trends. Yet investors WMRE spoke to remain active in the development and acquisition of life sciences buildings, focusing on secondary and tertiary markets and more specialized opportunities, such as biomanufacturing facilities.
A report released last month by Land & Buildings Investment Management LLC, an investment management firm headed by activist investor Jonathan Litt, who recently shorted publicly-traded life sciences REIT Alexandria Real Estate Equities Inc., examined tenant usage of life sciences buildings owned by the company. The Land & Buildings study compared the number of employees present before and following the COVID-19 pandemic in 435 of Alexandria’s life science spaces, located in major coastal markets, from the period of March 2019 to February 2020 with the period of March 2022 to February 2023. Utilizing cell phone data provided by Placer.ai and information presented by Alexandria and real estate data firm CoStar, the study showed a 50% decrease in employee attendance at the REIT’s laboratories and medical offices due to flexible work-from-home policies.
Land & Buildings concluded that although “life science was a pandemic ‘winner’ as public and private money flowed into the sector,” the “headwinds” from work-from-home policies instituted during the pandemic will affect the life sciences sector just as they did traditional offices. Land & Buildings predicted the current “declines in rental rates, occupancies, and values to be exacerbated by the low levels of development pre-leasing.”
For its part, in its report for the first quarter of 2023, Alexandria reported year-over-year growth in total revenue of 13.9%, to $700.8 million. Same-property NOI for the REIT’s portfolio grew by 3.7%, slightly above the company’s 10-year average of 3.6%. The company’s tenant rent receivables for the first quarter as of Apr. 24 totaled 99.9%. Alexandria’s FFO per common share during the period reached $2.19, up from $2.05 per common share in the first quarter of 2022. The company did not respond to requests for comment.
A study by commercial real estate services firm Savills, National Life Sciences State of the Venture Capital Market & 2023 Outlook, released in April, did show that the life science sector has seen a 28.2% year-over-year decrease in venture capital funding in 2022. Savills reported that funding for the sector peaked at $81.2 billion in 2021 and fell to $58.3 billion in 2022. The report’s authors pointed out, however, that while there was a decline in funding in the second half of 2022, as economic uncertainty and rising interest rates affected many investors, the year still ended up marking the second largest fundraising total for the sector.
Global commercial real estate services firm CBRE also presented a brighter outlook than Land & Buildings in its 2023 U.S. Life Sciences Outlook Report: Rising Uncertainty Amid Burgeoning Scientific Discovery, released in April. The report noted that both the demand for life sciences space and the industry’s job-growth rates have slowed compared to the record highs set in 2020 and 2021, and continuing instability in the global banking system may cause venture capital funding to fall further this year. But CBRE’s report, focused on the first quarter of 2023, also found that funding is set to top pre-Covid-19 amounts by approximately 20%, in large part thanks to public subsidies from the National Institutes of Health as well as private research and development backing. Meanwhile, a record high level of new construction will continue. As a result of these factors, CBRE predicted that by 2025, the life sciences real estate sector may grow by more than 20%. The report also noted that rents continued to rise for life sciences properties in most U.S. markets, albeit at a slower pace than before, and while vacancies did rise to an average of 5.7% in the fourth quarter of 2022, they remained well below the long-term average.
In the first quarter of 2023, the life science/R&D sector saw $1.6 billion in properties trade hands, a 59% decline compared to the same period a year ago, according to real estate data firm MSCI Real Assets. However, that decline in transaction activity was moderate when compared to investment sales volumes in other alternative property sectors. It was also one of only three alternative property sectors out of eight tracked by MSCI that broke the $1 billion mark in sales during the quarter (the other two were medical office and self storage).
“We remain believers in the life sciences sector,” said Sondra Wenger, head of the commercial operator division with CBRE Investment Management. “While venture capital funding may be slightly down from an all-time high, corporate research and development spending and the National Institutes of Health funding have remained at peak levels. Also, venture capital funding is still double the volume it was just five years ago.”
According to Wenger, life sciences assets remain appealing to CBRE Investment Management for several reasons, including the aging global population and the potential for future pandemics, both of which are set to contribute to record levels of spending in the sector. She also noted that the Covid-19 pandemic brought more manufacturing back to the U.S. and users of life sciences assets have expanded beyond the medical field into industries like technology, AI, and food. In addition, “Massive technology advancements [are speeding up the time of scientific process and discovery]. For example, the cost to sequence the human genome 20 years ago was in the billions of dollars. Today it is less than a thousand dollars,” Wenger said.
CBRE Investment Management is currently looking for investment opportunities beyond the primary life science markets of Boston/Cambridge, San Diego, Seattle, and the San Francisco Bay Area to smaller, emerging markets such as Atlanta, Nashville, Tenn., Dallas/Fort Worth, and Raleigh-Durham, N.C. The firm’s most recent life sciences acquisition, closed in September 2022, was Park Point, a 662,607-sq.-ft., class-A life sciences campus in Raleigh-Durham, a secondary life sciences market. This recently renovated adaptive reuse property consists of five buildings on a 95-acre parcel positioned in Research Triangle Park, which has received nearly $4 billion in funding from the National Institutes of Health since 2020 and attracted $900 million in venture capital in 2021.
“Within the Raleigh-Durham cluster, there are many leading biotech companies,” along with leading tech companies and research institutions, Wenger said. “These entities all complement each other with knowledge sharing and talent pool creation.”
Cooler climate
The life science sector “has cooled quite a bit from where it was a couple of years ago,” admitted Bruce Thomas, founding and managing partner with BioMed Development Group, a minority- and women-owned real estate development firm that focuses on office, laboratory, incubation, and collaboration spaces for biomed, biotech, and bio-sports companies. But like CBRE Investment Management, BioMed is not dissuaded from remaining active by current market uncertainty.
“I think it’s good because then you can be more focused in strategic markets,” Thomas said. “BioMed is remaining consistent in its level of acquisition and developments. We’re actively looking to both acquire and develop strategically in areas that we’re comfortable in.”
Managed jointly by Dr. Philip Hart, of Hart Realty Advisors, and Thomas’s own Thomas Advisory Group, the Irvine, Calif.-based BioMed is currently raising mainly open-end funds, mostly with contributions from institutional investors and family offices, to target the life sciences sector in “secondary markets that are adjacent to primary markets, going outside of San Francisco and San Diego proper, both east and north.”
A lot of investors continue to look for opportunities to deploy capital in the life sciences sector and some have not invested as much money as they would like to, Thomas said. “So, there are still buckets of money out there that are looking for ways to deploy capital in the life sciences area. I think they’re being more selective in the locations they invest in.”
Previously, assets located in Boston, San Francisco and San Diego would get the most investor attention. Rising interest rates, less capital availability and life sciences companies not expanding as quickly as they were during the past few years have had a negative impact on current returns, Thomas said. Today, life sciences properties in secondary markets are starting to have more appeal for institutions and family offices and that’s where BioMed has consistently focused its attention. Thomas estimates that returns on investments in the life sciences sector currently run in the mid-teens. The going-in cap rates run between 5% and 7%, a range Thomas expects to remain stable over the next three to five years.
Meanwhile, Josh Parker, chairman and CEO of the Bethesda, Md.-based alternative asset platform Ancora L&G, noted that “there’s probably little consensus as to where we are in the market cycle.”
The firm was created through a 50:50 partnership between the U.S. developer Ancora and the alternative assets arm of British insurer Legal & General to focus on the U.S. life sciences and technology real estate sectors. At the firm’s founding in 2022, Legal & General invested $500 million, with plans to bring its investment up to $4 billion by 2027, partly by looking for co-investors among its institutional client base, according to Reuters. Ancora L&G’s investment strategy relies largely on adaptive reuse.
The firm’s executives “really try to look beyond the macro signals,” noted Parker. In his view, innovation in the life sciences industry is still in the early innings. For example, the recent innovations in gene therapy and vaccines have “only scratched the surface” of what’s to come, he noted.
So, while Ancora L&G takes a cautious approach to life sciences assets in gateway markets, it has a very long-term view on its investments. The firm’s partners tend to “think in 25-, 50-, and 100-year increments,” Parker said. Its partners, which include pension funds and insurance companies, “are looking for long-duration, growth investments.” Like BioMed, Ancora L&G is currently focusing on leveling up its investments in secondary and tertiary markets where there are “strong anchor institutions.”
Currently, Ancora L&G’s main investment vehicle is a closed fund, while the firm is trying to reach an undisclosed target for its open-end fund by tapping pension funds, insurance firms and family office investors. The firm has two stabilized assets located in Fort Wayne, Ind., and Atlanta; two under construction in secondary markets Providence, Rhode Island, and New Haven, Conn.; and four more in the pre-development phase.
Parker cites the Electric Works project in Fort Wayne, Ind., as a prime example of Ancora L&G strategy. As lead developer, the company committed to the project because the location offered both “significant clinical partners in the health system, especially a lot of activity in orthopedic health care, and a number of universities in the area: Ball State, Purdue, Fort Wayne, Indiana Tech, and St. Francis—that together drive a really interesting and unique research and educational and health care infrastructure.”
To complete Electric Works, Ancora L&G formed public-private partnerships with the City of Fort Wayne, Allen County, and the State of Indiana, on a multi-phase, $286 million, 70,000-sq.-ft., adaptive reuse project to transform a former General Electric building compound, built in 1883, into a life sciences campus. Phase I, which opened in 2022, includes 20,000 sq. ft. of space featuring a medical clinic, commercial space, a food hall, and a STEM school with Do It Best Corp., the only member-owned hardware, lumber and building materials buying cooperative in the U.S., as the anchor tenant. Phase II is scheduled to commences in 2024.
Bethesda, Md.-based Vitrian is a national investment platform that is focused on end-to-end solutions for biomanufacturing. The developer/investor focuses on the manufacturing side of the life sciences industry, according to Scott Nudelman, co-founder and managing principal. Vitrian works with drug development companies and contract manufacturers to expand cGMP manufacturing capacity. It offers bespoke capital solutions, including build-to-suits via ground up development and adaptive re-use and sale-leaseback transactions.
“We don’t have a one-size-fits-all approach. For some companies, we’re a financing vehicle,” Nudelman said. “We can acquire facilities and lease them back or develop subject to long-term leases. For others, we take a facility all the way from design through the commissioning qualification validation process for FDA approval. We are not a speculative developer or investor, so almost everything we do is in partnership with companies.”
Vitrian is backed by GlenLine Investments, a privately-held real estate investment and management firm founded by Nudelman in 2019 with two third-generation Washington, D.C. companies and Montgomery Street Partners, a Dallas-based real estate private equity firm.
According to Nudelman, growth rates for the biomanufacturing industry have changed rapidly over the past three years. Previously, there were two primary types of biomanufacturing facilities: those in tertiary locations, typically owned by big pharma companies and mostly focused on large facilities for low-margin drug products, and smaller manufacturing assets, located near research and development centers, such as the Route 495 beltway around Boston and the East Bay in Northern California.
“What’s happened over the last three years, and is exploding now, is that certain regions of the country have an advanced manufacturing workforce and proximity to clinical trials, plus a favorable cost structure—available land and buildings, cheaper utilities, housing at all price points, everything that’s needed, which is much more advantageous than expensive areas like Massachusetts and California,” Nudelman said.
As a result, the markets that are leading the way for biomanufacturing today include North Carolina; Dallas/Fort Worth; Houston; Boulder, Colo.; Indianapolis and Atlanta.
Currently, in reaction to the rising cost of debt, Vitrian focuses mainly on build-to suit developments and sale leasebacks. “We weren’t taking a lot of risk previously, and we’re not taking incrementally more risk now, because everything we’re doing is in partnership with other companies,” Nudelman noted.
Recently, Vitrian partnered with Cellipoint Bioservices, a cell therapy contract manufacturer (CDMO), on a $50 million project to help the company expand from its initial manufacturing facility outside San Diego to a new headquarters and larger-scale manufacturing facility in Houston. “They identified Houston as a talent-rich, lower-cost area that actually has more oncology clinical trials than anywhere else in the U.S,” Nudelman said. “We helped them acquire a facility with a long-term leaseback in hand, and we are investing capital alongside them to bring a 75,000-square-foot facility to deliver in phases, starting now and completing in the first quarter of 2024.”
Given Vitrian’s strategy—“We’re not just buying an existing building that already has a lease in place, we’re the ones creating the lease”—the company’s yield on cost is typically in the upper single digits, according to Nudelman.
Vitrian’s assets under development/management generally range from $50 million to $100 million. As one example of Vitrian’s end-to-end solution offering, the firm has been engaged to build a commercial insulin manufacturing plant and advanced R&D facility for an Asian company. “This is a company that has zero presence in the U.S., so they are looking to us to do everything—secure the workforce, negotiate incentives, do all of the due diligence and construction and handle the FDA approval processes,” Nudelman noted.
In addition, Vitrian is retrofitting a shell building in Boston that belongs to a publicly-traded biomed manufacturing company. The company already owned the building, but decided in the middle of the retrofitting process that it was more cost-efficient to strike a sale-leaseback deal with Vitrian and let it oversee the rest of construction.
Nudelman said what differentiates Vitrian’s strategy is that “it’s a play on mission critical.” During the pandemic, when the supply chain became badly broken, ensuring that pharmaceutical ingredients were available in the U.S. became a national priority and led to a large amount of federal funding for biomanufacturing at home. “R&D is certainly important, but that’s not where companies make profits—they make profits when they get commercial approval and manufacture,” he noted.
Investors realize that betting on R&D is inherently riskier, while “the manufacturing side is where companies are putting a lot of their own dollars, where they can get the highest return on investment,” he added.