The looming U.S recession has cast a pall over the commercial real estate market, with sales tumbling by 16% year-over-year in April. The Economist explained that investors’ enthusiasm for offices, hotels, apartment complexes, and warehouses has diminished as debt costs have risen and household budgets have fallen. In addition, 53% of employees are hesitant about returning to the office after working remotely for the last few years.
However, if the recession prompts a market correction, not all asset classes will be affected in the same way. For example, the U.S. life sciences real estate market grew by an impressive 11% in 2021. In light of recent events, the segment is headed for a "recalibration," but not a contraction. Here’s how the life sciences asset class will change in ways you probably aren't expecting.
Near-Term Challenges, Long-Term Opportunities
Last year, the life sciences real estate market experienced a spectacular investment surge, as asset sales reached a record-setting $7.7 billion.
The sector received attention from state pensions and sovereign wealth funds that sought long-term stability in an increasingly volatile landscape. The coronavirus pandemic sparked a tidal wave of private and public funding in life sciences and biolab properties. In Q3 2021, demand in the space hit almost 23.8 million square feet compared to an available supply of 2.8 million square feet.
But in the first half of this year, the market cooled off considerably as sales plummeted by 34%.
However, that sharp drop-off in demand wasn’t caused by investors suddenly losing interest. Like the rest of the commercial real estate market, the life sciences segment tumbled because of several overlapping black swan events. The lingering effects of COVID-19, Russia’s war in Ukraine, an intensifying energy crisis in Europe, and the highest inflation rates in 40 years have made financers anxious about making significant commitments.
Until macroeconomic conditions stabilize – which is unlikely to happen this year - that anxiety will continue interrupting the flow of capital into the commercial real estate industry. Though visibility is limited, developers that take a data-driven approach to the market can see that the life sciences real estate market segment is rife with opportunity.
The sector has significant potential in the United States due to demographic changes and an aging population. PricewaterhouseCoopers noted that in 2025, the world’s elderly population - people age 65 and over - will have increased by 300 million. Life expectancies rising worldwide indicates meaningful housing and healthcare availability improvements have occurred. But it also means there will be a greater need for medications for chronic illness management.
The expanding middle class and senior populations will drive demand for new and more effective remedies from the life sciences sector and the need for more scientists to find those remedies. The impact of those trends is already evident in the job market. Biotechnology research and development employment in the U.S. expanded by 3% last year compared to an annual average 1.3% growth rate from 2016 to 2020.
Once the current economic turmoil passes, demand for life sciences real estate properties will regain its momentum, but not in the same geographies as before.
The Future of Life Sciences Real Estate
According to CBRE’s research, Boston/Cambridge and the San Francisco Bay Area have two of the largest life sciences labor pools in the United States. Top scientists have flocked to the East due to the presence of world-class universities and research centers like Harvard and the Broad Institute, as well as its appealing mass transit options. And the West Coast has attracted elite researchers that want to be close to the nation's foremost technology hubs.
But a geographic paradigm shift is coming to the life sciences real estate market. Dallas, Los Angeles, Philadelphia, and Seattle expect significant long-term growth. Those second-tier cities don’t have the biotech infrastructure or talent pools of their counterparts but have experienced robust demand. The region’s life sciences property owners believe their market can withstand the macroeconomic disruptions of the current moment and will perform well over the next decade.
Colliers Director of Research Aaron Jodka told Bisnow that second-tier cities hadn't seen a decline in interest or vacancy rates recently.
Developers anticipate interest in the life sciences real estate market will have a strong recovery; 21 million square feet of lab space is currently under construction in the U.S. But since the sector is seeing rising job growth and asset purchases – up 11% in the first half of 2022 – more purpose-built facilities are needed. With their comparatively low barrier to entry, areas like Seattle, Philadelphia, and San Francisco can potentially become biotech clusters.
The question then becomes whether life sciences firms and startups can recruit enough employees to justify acquiring new labs in the era of remote work.
Addressing the Return-to-Work Problem
After the COVID-19 outbreak reached pandemic proportions, millions had to adjust to learning and working from home. Although that shift was initially disconcerting, many workers prefer remote work, including life sciences professionals. A 2021 survey revealed that 52% of remote employees in the sector wanted to move to a hybrid model, splitting their time between on and off-site.
Moreover, firms might feel uncertain about pushing against that sentiment because 40% of workers are thinking about leaving their jobs.
Two of the primary drivers of the Great Resignation are pervasive feelings of burnout and a lack of employer support, and the shift to working remotely has exacerbated those issues. Employees can't form the genuine bonds required to spark true innovation without being able to chat with other people. In fact, life sciences professionals expressed concern that effective collaboration would be a casualty of moving to a hybrid or remote-first business model.
Accordingly, life sciences organizations need to overhaul their workplace cultures to attract and retain top talent. Leaders need to create office environments in which employees are content and are happy to be, which are conducive to innovation. Slack is great at facilitating communication, but it can’t replace the genuine human connection that comes with friendly water cooler chats.
It’s also essential for employees to have good lives outside the office, which can be cultivated by observing the current trends in life sciences real estate. Basing a facility in a second-tier city will ensure team members have a reasonable cost of living and will leave room in the budget for raises and bonuses. Companies that adjust to the post-pandemic world will shape their industries for decades to come.
To capitalize on the potential of the life sciences industry, real estate developers should remember Shoeless Joe’s (paraphrased) advice; if you build it, they will come.
Subscribe to the Local Real Estate Development Digest to learn more about the trends shaping the marketplace.
Tag(s):
Real Estate Development