Biotech Industry Drives Life Science REITs

This article is republished with permission from REITCafe.

The life sciences industry is growing rapidly, accounting for 15 of the 29 initial public offerings (IPOs) so far in 2015 and more than one-third of IPOs in 2014. Illustrating the growth in life sciences, the NASDAQ biotech index has gained almost 60 percent since year-end 2013. Robust industry growth has generated demand for specialized life science real estate that usually includes a mix of office and lab space. REITs that focus on life science real estate benefit from the growth in this industry but take on less risk. Fueled by strong expansion among life science companies, the two major pure-play life science real estate investment trusts (REITs) are expanding their portfolios through both acquisitions and new development, with earnings that reflect the benefits of this growth.

For many life science companies, their ability to lease space depends on funding. Federal government grants, particularly from the National Institutes of Health (NIH), are a significant source of funding. NIH funding was cut in recent years, but earlier this month, President Obama asked for a $1 billion, or 3.3 percent, increase in the NIH’s budget for fiscal year 2016. California and Massachusetts are the largest recipients of NIH grants, followed by New York and Pennsylvania.

Venture capital investment in both life science companies and businesses making medical devices and equipment is another source of funding that gained 25 to 30 percent during 2014. Funding for the two sectors grew at its strongest pace since the dot-com bust, increasing from $6.7 billion in 2013 to $8.6 billion in 2014. Businesses with funding can lease space, which helps explain demand for life science real estate. These companies may eventually go public or be absorbed by large pharmaceutical companies.

Alexandria Real Estate Equities (ARE) is the largest life science REIT, with a market capitalization of $6.85 billion. Most recently, ARE’s fourth-quarter 2014 earnings per share of $1.23 met consensus estimates. Its stock value reflects its strong performance, with a 15 percent gain so far in 2015, and growth of 66 percent since the beginning of 2014. ARE has diversified beyond life science real estate and is bringing in tenants like Uber that are part of the broader technology real estate market. ARE’s fourth-quarter operating property occupancy climbed 110 basis points to 97 percent in the fourth quarter of 2014. The company’s development portfolio is concentrated in urban centers near universities and hospitals, including Cambridge in the Boston metro area and Mission Bay/SoMa in San Francisco.

BioMed Realty Trust (BMR), with a market cap of $4.4 billion, missed slightly on fourth-quarter earnings of $0.36 per share versus estimates of $0.37 per share, but its stock has still gained a solid 6.9 percent so far in 2015 and 35 percent since the beginning of 2014. Steady leasing activity brought its same property portfolio to 89.2 percent leased from 88.9 percent one year earlier. BioMed’s tenant base includes biotech (60 percent) and big pharmaceutical companies and universities (40 percent).

Both companies have significant operations in Cambridge, which is arguably the hottest life science real estate market. Alexandria owns 3.7 million square feet (344,000 sq m) in Greater Boston, which represents 22 percent of its operating portfolio, and BioMed owns about 3.1 million square feet (288,000 sq m) in Boston, representing about 18 percent of its portfolio.

Successful fundraising and growth among biotech and big pharmaceutical companies are generating demand for life science real estate, and the two pure-play REITs have produced significant returns. However, the sector is risky, and investors should stay cautious. Supply is a concern. At year-end 2014, ARE’s value creation development and redevelopment pipeline in North America included 2.3 million square feet (214,000 sq m), and BMR had seven projects totaling 1.7 million square feet (158,000 sq m) under construction. Both companies report significant preleasing of their development pipelines, but if life science industry funding dries up, businesses will become cautious about leasing. While overall recommendation trends are positive, analysts have become more cautious and several have downgraded these stocks in 2015. Despite these concerns, strong industry expansion and attractive dividend yields in the 3 to 5 percent range make life science REITs an interesting sector for 2015.

* TREPP-i Survey Loan Spreads levels are based on a survey of balance sheet lenders. For more information, visit Trepp.com. ** - 10 yr. Treasury Yield as of 3/27/2015