The $10 Billion Bright Spot in the Battered World of Office
Real Estate
Blackstone, KKR and other investors are betting on laboratory space as vaccines fuel the
economic rebound.
By
June 2, 2021, 5:01 AM GMT+1
Even as the remote-work era clouds the future for offices,
one segment of the business is drawing cash from investors including Blackstone
Group Inc. and KKR & Co.
More than $10 billion has gone toward buying buildings
used for life sciences and other research this year, according to Real
Capital Analytics Inc. That accounted for approximately 4% of all global
commercial real estate transactions through May, double the share from last
year.
That estimate doesn’t count new construction, and fresh
buildings are breaking ground in U.S. cities including Boston, San Diego and San Francisco -- many without having signed
major tenants. Unlike workers in conventional offices, many scientists don’t work remotely. And as
vaccines help fuel the economic rebound, funding for medical innovations is
expected to drive the need for more space, particularly in the U.S. and U.K.
“The pandemic only amplified the demand growth, but it’s a
trend we think will continue for years,” Nadeem Meghji, Blackstone’s head of
real estate Americas, said in an interview. “This is about, broadly,
advances in drug discovery, advances in biology and a greater need given an
aging population.”
Last year, as social-distancing emptied out office buildings
and damped investor interest in malls and hotels, life science building sales
and refinancing totaled about $25 billion, up from roughly $9 billion in 2019,
according to Eastdil Secured. Blackstone, a veteran investor in the sector,
booked a $6.5 billion profit from refinancing BioMed Realty Trust, the
largest private owner of life-science office buildings in the U.S. It also
agreed in December to buy a portfolio of lab buildings for $3.4 billion.
KKR paid about $1.1 billion in March for a San Francisco
office complex it plans to repurpose for
life science tenants. DropBox Inc. had rented the entire site in 2017, but
broke its lease so employees could work remotely. In one high-profile U.K.
example, a science campus is planned for a Canary Wharf site once slated as
the London headquarters for Deutsche Bank AG. Overall, the U.K. life
sciences market saw a 166% increase in the volume of transactions in the last
three years, according to real-estate services firm Jones Lang LaSalle Inc.
Even before the pandemic, life science property was on the
upswing. Over the last five years, asking rents for such space soared 90% in
the San Francisco Bay Area compared with 20% for conventional office space,
according to commercial property brokerage Newmark. In Boston, which along with
nearby Cambridge is an epicenter of the industry in the U.S., asking rents
climbed three times as fast.
Investors see the higher rents translating into higher
property values, which explains why construction projects are moving ahead
without tenants lined up. Among the biggest
spec builders is IQHQ, a startup that raised $2.6 billion last year to
develop laboratory buildings that are breaking ground without signed leases. In
April, the firm launched construction of Fenway
Center, a $1 billion complex on a platform above Boston’s Interstate 90
with a rooftop view of the famed Red Sox ballpark. The firm isn’t concerned
about filling up the space, according President Tracy Murphy.
“We build spec, but we don’t build blind,” Murphy said in an
interview from San Diego, where her
firm is pouring concrete for a 1.6 million-square-foot waterfront lab
complex. “I don’t see any end in sight for money coming in.”
Harrison Street, a Chicago-based alternative real asset
investor, has about $2.6 billion invested in lab properties and wants to double
that over the next 24 months, Chief Executive Officer Christopher Merrill said
in an interview. Alexandria Real Estate Equities Inc., the largest life sciences real estate investment trust, also has big
expansion plans.
In January, it paid $1.5 billion for a project in Boston’s
Fenway neighborhood. The company has 4 million square feet of space under
construction -- about 1 million of which still hasn’t been leased.
As investors clamor to break ground, there’s a risk of an
oversupply of space, said Jeffrey Langbaum, an analyst with Bloomberg Intelligence.
Another hazard for developers is that lab space construction can cost as much
as 15% more than conventional offices.
Science buildings require stronger structures and higher ceilings to
accommodate features such as enhanced air filtration. That limits
potential other uses for the property if health-industry tenants don’t
materialize.
Lab buildings are trading for capitalization rates, a measure of returns for investors, of less
than 4%, which is lower than apartment buildings or industrial properties.
There’s been cap rate “compression” over the last year amid a surge in investor
capital flowing into the sector, according to Sarah Lagosh, managing director
in the Boston office of Eastdil.
The recovery of traditional offices is expected to take time
as companies call employees back over the next few months. Even then, many
firms have said they’ll let people stay home at least part of the time. That’s
raised concerns about the future of downtown skyscrapers, while Covid-19 has
added to the momentum for life sciences properties.
“The pandemic has pushed life sciences into warp speed,”
said Jonathan Varholak, who runs the life sciences team in the Boston office of
the real estate firm CBRE. “You can’t do chemistry from home.”
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