The announcement in September by Blackstone portfolio company BioMed Realty that it planned to double its UK portfolio was the clearest sign yet of the potential that real estate managers see in Europe’s life sciences property sector.

BioMed Realty, one of the leading providers of life sciences real estate in the US, acquired 42 acres of land in Cambridge – a research and development hub due to its world-renowned university – with a view to investing an estimated £850 million (€996 million) in 800,000 square feet of purpose-built laboratory and office space. Blackstone’s European head of real estate, James Seppala, said at the time that the plans played into one of the New York-headquartered firm’s “highest conviction investment themes”.

Speaking to Real Estate Capital Europe, Colleen O’Connor, vice-president for leasing in the US East Coast and UK markets for BioMed Realty, says the amount of public and private funding the UK sector is receiving, particularly compared with the market in other European countries, was a key factor in its decision to expand. Targeting an existing cluster for the industry where the company already has holdings also made sense.

“We always say that innovation happens in proximity,” she explains. “Which is why we believe in expanding our portfolio in locations anchored by academic and research institutions, a deep talent pool, capital providers and thriving commercial life science and technology businesses.”

Other real estate managers are excited about the sector’s growth prospects in Europe, with a particular focus on the UK. In April, a joint venture between Chicago-based Harrison Street and London-headquartered Trinity Investment Management, which develops and manages life sciences properties, launched a platform seeded with 2.6 million square feet of UK science parks and standalone assets.

Big names

In the same month, North American giant Brookfield bought a 50 percent stake in the Harwell Science and Innovation Campus, near Oxford, which it followed in June by acquiring UK science and technology property business Arlington for £714 million. The deals brought Brookfield’s ownership in the UK’s life sciences ‘golden triangle’ of Oxford, Cambridge and London to 1.6 million square feet, with the potential for 5 million square feet more.

Like O’Connor, Brad Hyler, Brookfield’s head of real estate in Europe, sees the volume of capital flooding into the sector as a significant driver. “The amount of funding that is now coming in through both public and private sources for new research and development, and discovery, is resulting in increased demand for real estate to service it,” he says.

Life sciences real estate has been on property investors’ minds for several years. Ageing populations and rapid advances in research have driven the need for space. However, the pandemic has brought a renewed appreciation for the sector’s work, and huge volumes of investment, which many say is here to stay. Data from Savills Research and PitchBook shows around €3.2 billion of venture capital was invested in UK life sciences alone in the first nine months of this year.

At affiliate title PERE’s Europe Forum, held in London in September, real estate professionals from the equity side of the industry discussed their approach to European life sciences. Speaking on a panel discussion, James Sheppard, head of commercial for the UK and Ireland at Kadans Science Partner, which specialises in the science and technology sectors, emphasised the importance of understanding what end-users need from their space.

“The first phone calls we make to understand demand are to technology transfer managers at universities,” he said. “Once you understand where these companies are coming from, you can see where they are going.”

Panellists also said that to date most life sciences accommodation has been built by owner-occupiers, meaning it is an emerging market for real estate investors, and particularly for developers, and one in which there is limited data to measure performance. Yet despite the sector’s challenges, property investors have life sciences in their sights.

According to the Emerging Trends in Real Estate Europe 2022 report, published by PwC and the Urban Land Institute, life sciences real estate was rated the second-ranked sector prospect for investment by those surveyed, behind new energy infrastructure – and came third as a development prospect.

As real estate equity investors explore burgeoning life sciences opportunities, those on the debt side of the industry are faced with the prospect of writing loans in a market in which few have extensive experience of underwriting.

Lender appetite

According to Brookfield’s Hyler, lenders consider similar criteria in life sciences debt deals to those in office financing, but pricing is tighter.

“We’re seeing senior loans in the low- to mid-100s [of basis points] spreads at investment-grade, [for] 50 percent to 60 percent loan-to-value,” he says. “And obviously, it goes up from there, depending on the risk profile and the amount of additional leverage. But I think, generally, in terms of lending terms and covenant structure, it is not that different to more traditional office.”

Balaji Nagabhushan, founder and partner at London-based real estate debt advisory firm Conduit Real Estate, sees lender interest in the sector. “Lenders are actively competing, although if you send a deal to around 30 lenders, all of them will say they are interested but only around five to 10 will provide good quotes,” he says. “But among those, there is a lot of competition.” He adds that margins of around 225bps on a five-year, 60 percent LTV investment loan are achievable.

However, he adds that not all life sciences projects attract equal lender attention. Those in which lenders can find the greatest similarity with an office asset are most popular among financiers: “When it comes to funding life sciences parks that have leases rather than just operating companies, that’s where most people start thinking, ‘Hang on, is this a bit closer to normal commercial real estate compared [with] operating real estate?’”

Since the onset of the pandemic, there have been notable examples of life sciences financing deals, particularly in the UK. In October 2020, a lender consortium including Canadian bank RBC Real Estate Capital Partners and US investment manager PIMCO provided BioMed Realty with around £300 million to finance three of its Cambridge assets. In January this year, Harrison Street sourced a £110 million refinancing of its UK portfolio with UK bank Lloyds and US private equity firm Oaktree Capital Management.

In May, UK challenger lender OakNorth Bank provided a £44 million loan to Bruntwood SciTech – a joint venture between insurer Legal & General and Manchester-based landlord Bruntwood – to finance the development of office and lab space at two of its business parks in Birmingham.

Financing considerations

Chris Swarbrick, senior director for debt finance at OakNorth, says the deal has given him an appreciation of what needs to be considered when providing life sciences real estate debt. “It’s a broad sector, and ‘life sciences’ is an umbrella term for many uses,” he says. “For example, one of the buildings we financed will have a digital-focused use, so it is more like a traditional office, whereas the other is for a medical use, so is traditional lab space.
“So, the first thing a lender should ask is, ‘What is this building actually going to be?’ Will an alternative use be difficult – for instance, if it is a wet lab that is expensive to fit out or strip out?”

The location of the asset is also crucial, Swarbrick adds: “Life sciences communities tend to build together, whether they are medical, digital or tech-focused. So, it is important to be sure the intended use fits with the wider location. Lenders also need to be mindful of wider market conditions, including local labour markets. Life sciences uses require skilled employees, so the real estate needs to be in a location, and of a quality, that fits their aspirations.”

While real estate equity investors look at the upside of the sector, lenders are evaluating the downside risk. For Alexandra Lanni, head of investments, credit strategies, at CBRE Investment Management, it is important to consider alternative uses. “There is an element of comparing [with] what you know,” she explains. “If you have a building that is predominantly office-led, you will be comparing it with underwriting offices. When considering the downside, we think, ‘What is the alternative occupation for this asset? Is there enough depth in that occupational market and what is the alternative use?’

“The huge demand we are seeing for this type of space is unprecedented. So, from a downside perspective, we always look back historically and say, ‘How many other potential life sciences companies could take this space?’ This list has been small traditionally, so we need more time to really start seeing the extent of the occupational demand for these assets, which will give us comfort that there will be alternative tenants at these higher rental levels.”

Choosing the right assets

Market participants argue it is important that real estate opportunities labelled as ‘life sciences’ are scrutinised to ensure they are positioned effectively to meet sector demand. Brookfield’s Hyler says the surge in pricing could attract some developers that may not be sufficiently qualified. He says that might lead to developers “taking a location that is presented as a life sciences development or redevelopment, for which there is no reason or catalyst” for it to be labelled as such. He adds: “It may just be an antiquated office park or an obsolete retail park that, if it is in the middle of nowhere, or in the wrong place, there won’t be tenant demand [for].”

However, tight supply of purpose-built life sciences stock is leading the conversation in the real estate industry towards the conversion of existing properties, mainly offices. Brookfield is among those with such plans. “We’re doing some of it at Oxford Business Park,” says Hyler. “But it’s also happening at other older business parks that are in clusters, close to leading research institutions or collaborative organisations where there’s demand for lab space. So once traditional office tenants vacate, you can convert that into lab space.”

The crucial thing, say market participants, is that any property targeting the sector is designed to cater for often specialised uses. As BioMed Realty’s O’Connor puts it: “We always say that any lab building could be an office building but not any office building could be a lab space, because it has specific infrastructure requirements necessary for the science or tech companies it will host.”

“We always say that any lab building could be an office building, but not any office building could be a lab space”

Colleen O’Connor
BioMed Realty

In the US market, more lenders are evaluating proposals to convert existing, outdated office assets into life sciences properties, says Jeffrey Black, an executive vice-president at consultant Colliers in Boston. He says demand for space in and around the city, which is a life sciences hub, is driving such activity, as is the potential for enhancing returns on older assets. “An office-to-lab conversion can take a property with a net operating income of a few million dollars into the teens. And this is a far more liquid and dynamic market.”

Sizing up tenants

The demand is there, but these conversions are difficult to underwrite for a variety of reasons, including figuring out if a property’s structure can support the additional weight requirements. The credit of potential tenants is also a serious factor to take into consideration because many life sciences companies are in the early stages of growth.

“In many scenarios, a tenant may be pre-revenue,” Black says. “Historically, you are chasing lease duration with life sciences properties. But with some tenants, you’ll be getting the duration but not the credit. But this is a huge dynamic, particularly in Boston, of owners sitting on what would have been a class B to class A conversion, who are now wondering if their buildings have the infrastructure to become a life sciences alternative.” According to US real estate advisory firm Newmark, office-to-lab conversions represent more than 20 percent of total lab space under construction or renovation in six out of the 11 largest US life science markets.

Although there is not a huge amount of evidence the trend is taking place in Europe, Nagabhushan says conversions are being considered in talks he is having with some UK office landlords. Nagabhushan, who has advised on life sciences financing deals this year, says fit-for-purpose space in Europe is scarce, which is limiting investment deals in the sector. “There is a lack of stock in the UK and continental Europe to meet investor demand, but I expect to see new developments in the space going forward,” he says. “While the number of deals may not reflect the level of demand, I am sure it will pick up because of the high demand.”

Although lenders continue to educate themselves about what sound underwriting of life sciences looks like, it is likely that many will get behind the rapid growth of this in-demand industry.

Additional reporting by Daniel Cunningham and Samantha Rowan.

Emerging hotspots

Property consultant Savills has identified European life sciences hubs

Germany: Research and development spending is expected to reach 3.5 percent of GDP by 2025, putting the country among the world’s most research-intensive economies. Its life science network is scattered – Munich has growth potential and Berlin has a higher concentration of life science parks.

Netherlands: The sector is clustered around Leiden, Amsterdam and Utrecht. Leiden has the most mature life science campus, with almost 20,000 jobs and plans to create 10,000 more in the next five years. Life science companies accounted for 52 percent of total office take-up in Leiden in 2020.

Switzerland: Nine out of 10 of the largest biotech and pharmaceutical companies globally have a substantial presence in Greater Zurich. In addition, Swiss life sciences companies raised more than €500 million of venture capital funding in H1 2021.

France: The life sciences industry employs 99,000 workers, making the country second in Europe to Germany. Paris has attracted €1 billion of venture capital funding in the last five years. Pharma companies favour western Paris, though Lyon is a stronghold of the pharma biotech sector.

Denmark: Rents have reached €550 per square metre for prime Copenhagen science/pharmaceutical market rents. Pharmaceutical sector leasing has held stable, with minor increases in the last five years.

UK: London, Oxford and Cambridge remain the market leaders, although regional locations are attracting growing investment activity. The UK life sciences sector employs more than 250,000 people within 6,300 businesses and generates a turnover of nearly £81 billion per year.

Poland: The pandemic accelerated growth of pharmaceutical companies in the country, which is home to Europe’s sixth-largest pharmaceutical industry. The latest available data shows a 27.5 percent increase in the number of pharmaceutical companies between 2018 and 2019.

Source: Savills European Life Science: Emerging Hotspots, August 2021