San Diego's perennially influential life sciences market is well-positioned to weather economic headwinds in spite of a broader pullback in venture capital funding for the industry.
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Venture capital for the industry in general dropped off from the record highs seen in 2020 and 2021, with a 46% annual decrease in the first quarter, but it hasn’t hit the industry the same way in all areas.
While emerging life sciences markets like Orange County, with a 44% drop in funding, are harder hit by funding pullbacks, San Diego fared better. Year-over-year in Q2 2022, total VC funding to local life sciences companies dipped by just 5% and increased 39% over the first quarter.
“You’re going to see more capital flow into San Diego, especially in times when the venture capitalists are pulling back,” JLL Executive Managing Director Grant Schoneman said. “They're going to focus their money on investments in more established areas with more established companies and more established executive teams.”
The life sciences sector isn't impervious, however. Leasing has slowed, with second-quarter leasing activity at its lowest point since Q3 2019, a JLL report found, attributing the shift to market uncertainty.
But it is a slowdown, not a full stop, according to the data.
“Within the core biotech cluster, direct vacancy is at 1.4%, having risen by only 10 basis points since Q1,” the JLL report said.
By Cushman & Wakefield’s count, overall San Diego life sciences vacancy was 5.1%, down 40 basis points from the previous quarter and 2.8% from the end of Q2 2021.
The voracious demand for lab space in the area has boosted the office sector as well. Offices in desirable life sciences submarkets have sold for conversions or as teardowns to be replaced with Class-A lab space.
Cushman & Wakefield Executive Vice Chairman Brian Starck said the demand for office spaces that can be converted into life sciences projects is at a pace he hasn't seen before.
“Historically, there would be one or two conversions,” Starck said. “This has been just a rush into the asset class, with so many different developers coming in.”
In San Diego, there are about 1M SF of office-to-lab conversions slated to come online before the end of the year, JLL estimates. Those are expected to help lower office vacancy by removing square footage from the market.
San Diego’s downtown, long predicted to be a beneficiary of the spillover from tight core life sciences markets such as UTC or Torrey Pines, secured its first lab tenant in the second quarter.
That pioneering tenant, Native Microbials, took about 27K SF at a law school-turned-lab space developed by a partnership between Phase 3 Real Estate and Bain Capital Real Estate, according to Cushman & Wakefield. The tenant relocated from Torrey Pines to the building at 1155 Island Ave., CoStar reported last month.
“I think the feeling is that the central San Diego markets are very tight — they're hovering right around 3%,” Starck said.
When companies get a surge of investment, “if they require a bigger footprint, it can be very difficult for them to find spots in the central markets,” he said.
Starck and Schoneman echoed reports that anticipated increasing demand from startup companies for life sciences space between 10K SF and 30K SF.
Though broader economic uncertainty and other industry-specific factors like the rising cost of drug development have begun to cast doubts about the outlook for the sector after some banner years, many experts anticipate that the sector will weather whatever is ahead well.
And while at least one developer has put an office and life sciences project on hold in San Diego, there are 4.1M SF under development, according to JLL.
To learn more about the San Diego market, attend the Bisnow San Diego State of the Market event on Aug. 16.
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