Investors Bet on Life Sciences as Industry Grows at Rapid Clip

Introduction: The Investment Case

Burgeoning demand for pharmaceuticals from a large and ageing population; government pro-growth policies to support the industry; a steady flow of M&A activity; a rising number of IPOs[1]; and the expansion of R&D capacity are just a few of the factors that are fuelling occupier demand for life sciences real estate in Asia Pacific.[2]

More recently, the life sciences industry’s role at the forefront of combatting the COVID-19 pandemic has generated substantial requirements for real estate to test, produce and store vaccines, medicines, and related products, adding to already significant demand.

As these powerful macro trends converge, CBRE is tracking a rise in interest from investors eyeing an asset class that until recently was some way down the list of preferred alternative sectors for investment.

This year’s CBRE Asia Pacific Investor Intentions Survey uncovered growing interest in healthcare, with 26% of respondents indicating an interest in the sector, up from 18% a year previously. [3] While hospitals and medical centres have traditionally been the main focus, more investors are exploring opportunities to acquire business parks catering to pharmaceutical tenants and R&D laboratories.

Many of these buyers are being lured by life sciences companies’ resilient performance amid the pandemic; large number of well-funded potential tenants; and high degree of ‘stickiness’ towards real estate, which often sees them commit to leases of a length far beyond those typically seen in more traditional investment sectors such as office or retail.

Although factors such as ownership of life sciences properties generally being tightly held by universities, government bodies and end-users; concerns over the covenant strength of smaller life sciences companies; and a small investible universe have somewhat constrained investment, CBRE believes the sector holds significant potential.

A Nascent Asset Class

While the pandemic-driven acceleration in R&D and active life sciences investment in other regions, most notably the U.S., are drawing buyers to the sector in Asia Pacific and leading to strong enquiries for sophisticated facilities for R&D, manufacturing and high-specification storage, investment in life sciences real estate in the region has until recently been very limited.

RCA data show life sciences related transactions accounted for just 4% of global commercial real estate volume in 2020, with the U.S. accounting for the bulk of deals. In Asia Pacific, just US$700 million worth of life sciences real estate changed hands in 2020, a fraction of the overall total. However, this nevertheless marked a significant increase on the US$89 million worth of deals concluded in 2018.

Most R&D and manufacturing facilities in Asia Pacific are purpose-built and self-owned by universities, government institutes and end-users and therefore not available for sale. Government concessions to support the sector mean that many facilities are leased, or their associated land sold at below market value. Concerns over the covenant strength of smaller life science companies have also hindered deal flow.

Direct investment in life sciences real estate has been limited, with just a few transactions for manufacturing / office plus R&D facilities recorded in Australia, Japan and China completed over the last 24 months, and isolated cases of international pharmaceutical companies restructuring their existing portfolios and disposing of under utilised facilities.

Recent quarters have also seen some sale leaseback deals for distribution centres and corporate offices by pharmaceutical companies looking to improve their balance sheets or recycle capital for future R&D projects.

While committing capital into co-mingled funds investing in life sciences real estate is a potential entry route, such funds are mainly focused on assets in the U.S. and Europe. There are just two life sciences and pharmaceutical real estate focused funds in Asia Pacific, namely LC Core Opportunistic Fund I and II, both managed by Singapore based Lighthouse Canton.

Several healthcare real estate funds exist in Australia, where they have historically focused on medical facilities. CBRE expects these funds to expand their portfolios in the coming years by considering a broader range of real estate, including life sciences, as exemplified by Dexus Healthcare Property Fund’s recent purchase of two R&D buildings in Parkville, one of the country’s major life sciences clusters.

Other activity has seen domestic developers and investors partnering with the public sector to develop facilities catering to future growth. In Singapore, Biopolis, a research and development centre for biomedical science, has seen a number of successful Public-Private Partnership (PPP) deals since its inception in 2003.

Figure 1: Recent major life sciences transactions in Asia Pacific

Source: RCA, CBRE Research, June 2021

Market in Focus: Australia

Along with China, India, Japan, and Korea, Australia is seeing an increasing number of life sciences real estate transactions as the country emerges as a world-leading life sciences hub, particularly in the field of biotechnology.

Since the onset of the pandemic, the Australian life sciences industry’s rising profile, ability to operate despite widespread business closures, and near total absence of requests for rental relief or financial assistance has generated substantial investor interest in what are referred to locally as healthcare and social infrastructure assets.

With the sector increasingly viewed as a recession-proof asset class, traditional office and retail investors have been gravitating towards healthcare and social infrastructure properties. These include several institutional funds, which have commenced building healthcare portfolios as they adopt  diversification strategies.

CBRE Australia’s Healthcare and Social Infrastructure Capital Markets team recently brokered the sale leaseback transaction of a life sciences portfolio containing assets in Queensland, New South Wales, Western Australia, and Victoria.

All facilities in the portfolio provide cancer treatment, possess radiotherapy bunkers, and have highly specialised fitouts. Having the sale leaseback structured and determined by an independent valuer provided investors with the confidence that the portfolio was fairly priced.

The security of tenancy, long lease terms and specialist nature of the assets in the portfolio attracted substantial interest from a broad range of buyers including institutional groups, medical funds, and private investors.

Several years ago, such a portfolio would be fortunate to attract two or three bids owing to the specialised nature of the asset putting exit strategies at risk if the tenant was to vacate the property ahead of lease expiry.

Now, the specialised nature of such assets has become one of the sector’s strongest selling points as the high upfront fitout cost almost always ensures the tenant remains in the property for the full duration of the tenancy due to the high expense incurred in moving elsewhere.

With office landlords fortunate to secure tenants for terms longer than five years, average lease terms for Australian healthcare and social infrastructure assets are highly attractive in comparison, at around 10-15 years. The average lease term for the portfolio of facilities in this CBRE-brokered deal was 30-35 years plus options.

Investors’ focus on tenant credit, long leases and stable cash flows was noted in CBRE’s 2021 Asia Pacific Investor Intentions Survey, and now appears to be swaying them towards the life sciences sector, as exemplified by this particular transaction.

While sale leaseback is the primary route for investors to access the sector in Australia, other channels are available. Although assets priced over AUD 100 million have historically been traded off market, CBRE expects the next 12-24 months to bring increased opportunities for investors to acquire large single assets and portfolios of medical and healthcare estates incorporating R&D and occasionally some residential components from family offices and private equity funds needing to sell down.

Many of these assets will be located in the established clusters of Macquarie Park in New South Wales (NSW) and Parkville in Victoria, both of which host universities and other research institutions in addition to major life sciences occupiers.

Opportunities for conversions are limited due to government regulations covering the health sector preventing a simple refitting or repurposing. The substantial investment required to convert existing properties into specialised facilities means it is far more cost effective to redevelop existing buildings and construct a new property.

As more of these deals become public knowledge and operators begin to comprehend the appeal of sale leasebacks, CBRE expects to see more opportunities come to market. While yields in the sector stood at around 8% three years ago, an increasing number of buyers expressing an interest are now indicating that yields of around circa 5% are palatable.

Conclusion: Investment Entry Routes

As life sciences real estate is at a nascent stage of development as an investible asset class, investors often possess limited knowledge about the sector. After brokering numerous life sciences-related investment transactions across Asia Pacific over the past 24 months, CBRE has identified a number of potential entry routes, which include but are not limited to the following:

• Sale Leasebacks & Disposals: Investors seeking income-producing assets can target sale leasebacks or disposals by life sciences companies looking to improve their balance sheets or offload non-essential assets following M&A. CBRE expects numerous assets to come onto the market in Australia, Japan and Korea as pharmaceutical companies recycle capital for R&D.
• Asset Conversion: Value-added investors can consider converting older industrial properties into BSL-1/BSL-2 laboratories* or cold storage. CBRE believes this strategy is best suited to markets such as Hong Kong SAR and Japan, both of which have a limited volume of land specifically allocated to the life sciences industry. Any suitable properties will need to meet criteria related to ceiling height, floor loading, and floorplate, along with power capacity for additional ventilation systems and waste management.
• Public-Private Partnerships: With government bodies playing a prominent role in promoting the development of the life sciences industry, investors are advised to engage in public-private partnerships with local authorities to capture development opportunities in newly planned science parks or land tenders.
• Asset development: Opportunities exist for investors and developers to construct build-to-suit facilities with pharmaceutical companies. In Japan, Mitsui Fudosan has developed two laboratories for rent, while in Australia, Stockland acquired land in Sydney’s Macquarie Park from Johnson & Johnson and then developed a new headquarters building for the same company on the site.
  
  

• Equity (fund investment and/or joint ventures) and debt: Prospects for equity investment primarily lie in investing in pharmaceutical or logistics companies offering temperature-controlled supply chain solutions for the life sciences industry. While transactions involving debt financing are rare in Asia Pacific compared to the U.S. and the Americas, this area of the capital stack offers considerable potential, particularly in Australia, due to the typically long lease terms for life sciences real estate.
  
  

Figure 2: Approaches to investing in life sciences real estate

Source: CBRE Research, June 2021

*Note: Biosafety Level 1 (BSL-1) laboratories feature settings in which personnel handle low-risk microbes that pose little to no threat of infection to healthy adults. Biosafety Level 2 (BSL-2) laboratories feature settings in which personnel work with agents associated with human diseases (i.e. pathogenic or infections organisms) that pose a moderate health hazard.

[1] https://www.hutch-med.com/hutchmed-launches-hk-ipo/
[2] A New Era of Life Sciences Growth: Opportunities for Occupiers and Investors, CBRE Research Asia Pacific, June 2021
[3] 2021 Asia Pacific Investor Intentions Survey, CBRE Research Asia Pacific, March 2021.

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