In The Life Sciences Real Estate Gold Rush, A Select Few Are Striking It Rich
Recent life sciences real estate reports paint a picture of overwhelming demand and a great opportunity for new developers.
A record $26B of venture capital funding poured into the sector in the first six months of 2021, according to Newmark, setting loose scores of well-capitalized startups seeking lab space. CBRE found that the 15.6M SF of speculative lab construction underway nationwide is nearly 30% leased, signaling developers can’t keep up. The overall vacancy rate for the top 12 biotech clusters, per CBRE, is just 5.6%.
But the reality is a select few developers have been able to cash in. In addition to difficulties finding talent, and the special requirements and expertise required to build lab spaces, the cost of such projects is prohibitive and the risk of failure is much higher than traditional office buildings.
“Companies who have been at this have had a large jump, and it's taken them decades to figure it out,” said NBBJ partner Tom Sieniewicz, an architect who specializes in life sciences projects. “These are high-service clients with very expensive infrastructure and demands. As much as I admire the energy of inexperience, here’s a time where gray hair and experience are vital. There isn’t going to be much forgiveness.”
A recent Newmark report found the top 10 lab developers own 100M SF nationally, and roughly two-thirds of that is held by three firms: Alexandria Real Estate Equities (40.1M SF), BioMed Realty (16M SF) and Healthpeak Properties (11.3M SF).
Sieniewicz and others have observed new players enter the market recently, trying to take advantage of what is viewed as a gold rush into the asset class. But, like the actual California gold rush, the rapid pivot to a new market opportunity tends to reward big, established, well-funded players.
Recent ventures, such as Blackstone and BioMed, TPG entering the market via Alloy Properties, Tishman Speyer and Bellco Capital forming Breakthrough Properties, KKR funding new projects, and Brookfield forming a strategic partnership with King Street Properties are either highly capitalized players forming partnerships, or private equity firms with significant funding and connections to startups and potential tenants. Despite bankrolls that measure into the billions, they are still finding it extremely difficult.
Breakthrough Properties Executive Vice President of Business Operations Susie Harborth said a lot of new life sciences-focused firms looking for staff cast their nets beyond typical real estate talent pools and still have trouble finding the right people.
“There are lots of third-party people moving into life sciences real estate, trying to assemble a team that isn’t necessarily all real estate talent,” Harborth said. “A lot of firms are saying, ‘We need to hire 50 people by the end of the year, and I don’t even know 50 people looking.’ Where are those people going to be coming from?”
One of these new entrants is Sterling Bay, a big name in creative office development in Chicago with a $5B portfolio and tenants such as Google. The firm is expanding, but only via a partnership with investment management firm Harrison Street, which has existing market experience. So far, the partnership has made a handful of acquisitions in San Diego and Denver.
Sterling Bay took its time entering the market. The firm started with a space on 2430 South Halsted in its hometown of Chicago, which it purchased in 2018, gutted and leased to small startups. It was a validation deal that gave them the confidence to work on a larger space in their Lincoln Yards Chicago megaproject — Ally at 1229 West Concord, a 320K SF building focused on life sciences breaking ground soon — and expand to San Diego, purchasing 1.4M SF in the hot Sorrento Mesa submarket earlier this month for $576M.
“As we have started to expand nationally, it’s taking us a little bit of time to get our name recognized,” said Suzet McKinney, who became principal and director of Sterling Bay’s Life Sciences Division this past January. “Tracking well in San Diego, Boulder and Denver, but that’s been the biggest challenge so far.”
For Sterling Bay CEO Andy Gloor, part of the inspiration came from being in Chicago, which has roughly 1M SF of lab space, and seeing an opportunity for much more. It could have 18M to 20M SF eventually, he said. He feels the firm’s experience in creative office space has some carryover to life sciences, where there is a lot of overlap for non-lab work and amenity space.
“We see the demand and then also couple that with the opportunities,” Gloor said.
He sees the firm focusing on both established and emerging markets, and believes markets like Dallas, Atlanta and Chicago have the room for robust growth. He wants to buy and operate properties, incubator spaces, graduate labs and otherwise and only enter markets the firm is committed to in the long run.
“We have deals in Philly and Durham, not sure we have anything chiseled in stone, but we’re trying to meet the market and there’s a lot of demand,” Gloor said. “We’re just at the beginning stages.”
As Sterling Bay and other smaller firms seek to expand or break into life sciences, they may run into similar problems. Newmark Associate Director of Capital Markets Research Daniel Littman said costs are a key barrier: Even office-to-lab conversions often come in at $100-$150 per SF for base building costs, and then $250-$300 per SF for a tenant retrofit. And that’s if you can acquire assets; especially in top markets, available assets are few and far between, and there is a lot of money chasing the space.
“If you’re a smaller group, you need to put a lot of your capital into a small number of high-cost opportunities,” Littman said. “That level of conviction is pretty high, which is risky if you’re smaller. To be more than a regional player, you really need either experience or a bankroll, or both.”
Harborth underscored that in addition to the difficulty finding talent, getting expertise in different markets is another hurdle. Real estate is such a local business, and even for firms seeking more national exposure, there’s a need to know local players. Transplant talent can’t instantly operate at the same level in a new market.
Carly Glova, president of commercial real estate talent firm Building Careers, said that the drive for talent has led some firms to bend their criteria, prioritizing life sciences experience over someone who is a perfect fit for a particular role, and sweetening employment offers, allowing staff to work remotely, increasing compensation packages or allowing for equity opportunities.
There’s also a shortage of experienced architects and designers in the field. NBBJ’s Sieniewicz says he has nondisclosure agreements with existing life sciences clients, and he believes many other experienced architects and designers have similar arrangements, preventing them from sharing knowledge with top talent. Developers trying to gain the expertise to compete with the incumbents face an uphill battle.
“The established life sciences developers weren’t too worried about what we all term 'the gold rush' happening right now in commercial real estate,” Sieniewicz said. “They thought the complexity of successfully developing these buildings meant they were protected. And they are. The guys who have been doing it for decades know their way around a complicated building.”