Firms are focusing on LSRE as the traditional office sector struggles
NATIONWIDE – Diversified real estate investment trusts (REITs) are placing a greater emphasis on life sciences real estate (LSRE) these days as the traditional office sector struggles.
As first quarter (Q1) earnings reports continue to be released, it is growing increasingly apparent that LSRE is an increasingly favored sector among REITs, whether they are office-focused, healthcare-oriented or diversified.
As BREI reported last week, the only pure play life sciences REIT, Alexandria Real Estate Equities Inc. (NYSE: ARE) is, of course, continuing to concentrate on its core business of LSRE. But, as we also reported, healthcare REITs, including Healthpeak Properties Inc. (NYSE: PEAK), are also more active in the life sciences segment amid a slowdown in the medical and senior living markets. And even more fully diversified CRE investment firms, including Blackstone Group Inc. (NYSE: BX), the owner of BioMed Realty, are also upbeat about the prospects for LSRE.
Alexandria, Blackstone’s BioMed unit and Healthpeak are the three largest owners of LSRE. The fourth largest owner of LSRE, Ventas Inc., NYSE: VTR, with 10 million square feet, is scheduled to report its Q1 earnings Monday (May 8.)
Meanwhile, additional earnings reports and other news released in recent days appear to confirm the growing commitment toward the life sciences sector by more fully diversified CRE investment firms.
Let’s take a closer look at two of those REITs that reported earnings in recent days: Boston Properties Inc. (NYSE: BXP) and Office Properties Income Trust (Nasdaq: OPI).
BXP: ‘We’re going to continue to focus on our life science portfolio’
BXP, which released its Q1 earnings report April 25, focuses on what it calls “premier workplaces” – office properties concentrated in six U.S. markets: Boston, Los Angeles, New York, San Francisco, Seattle and Washington, D.C.
Overall, traditional U.S. office space has struggled in recent months for several reasons. The COVID-19 pandemic led to a short-term decline in the demand for office space, which has turned into a longer-term decline as many companies continue to allow employees to work from home at least part-time. Additionally, the pandemic, rising interest rates and financial uncertainty have prompted many companies to scale back, which has further depressed demand.
Yet BXP Chairman and CEO Owen Thomas was generally upbeat during the firm’s April 26 earnings conference call with securities analysts.
“Despite significant economic headwinds, BXP continued to perform in the first quarter,” Mr. Thomas noted. “Our FFO (funds from operations) per share was above both market consensus and the midpoint of our guidance, and we increased our FFO per share guidance for all of 2023,” Mr. Thomas said. “We completed 660,000 square feet of leasing in the first quarter with a weighted average lease term of 7.7 years and kept occupancy flat despite more challenging leasing market conditions.”
Even so, while the impact hasn’t been as severe as for traditional office space, the LSRE sector has also taken its lumps in recent months due to a general slowdown in the life sciences industry,
“The most dynamic and expanding reservoirs of demand over the last decade, technology and life science users are focused on profitability, cost reduction and capital preservation,” BXP President Douglas Linde explained during the earnings call.
“Activity in the life science market continues to be slow across both Greater Boston and South San Francisco,” Mr. Linde continued, “and there is new unleased space being added to the market. There are a few large requirements that are touring, but as I have previously discussed, the bulk of the demand is from small private companies that are looking for fully built space.”
As a result, BXP hasn’t been immune from the life sciences market slowdown, Mr. Thomas noted.
“During the quarter, we experienced on life science default on 12,000 square feet at 880 Winter St. (in the Boston suburb of Waltham, Mass.), where a foreign biotech company shut down its U.S. operations. This was one of the spaces we built on a speculative basis in 2022,” he noted.
However, he said that situation will have a silver lining.
“We are negotiating a new lease on the space as is with a rent that’s 9 percent higher than the prior rent,” he said.
Also, bigger picture, Mr. Thomas said he sees LSRE as one of the core businesses that will continue to play a key role in BXP’s long-term success.
“We’re going to focus on premier workplaces in the office segment. We’re going to continue to focus on our life science portfolio, and we’re also going to focus on residential development, probably more as a merchant builder as opposed to a long-term owner,” he said.
According to BXP’s “Supplemental Operating and Financial Data,” released in conjunction with its Q1 earnings report, life sciences tenants were responsible for the three largest “Notable Signed Deals” (although those new leases have not yet commenced):
■ AstraZeneca plc (Nasdaq: AZN), which took 566,000 square feet at 290 Binney St. in Cambridge, Mass.
■ Genentech Inc., which leased 229,000 square feet at 751 Gateway in South San Francisco; and
■ The Broad Institute, which took 225,000 square feet at 300 Binney St. in Cambridge.
Overall, life sciences firms accounted for 8 percent of BXP’s tenants as of March 31, based on their share of annualized rental obligations.
Mr. Linde concluded his earnings call comments on a positive note.
“Overall, our portfolio is incredibly diversified by client, by industry sector and by geography,” he said, “and our weighted average lease term is approximately 8 years, which leads to manageable annual lease expiration exposure.
“This portfolio construction is by design, given our focus on premier workplaces that attract a high-quality client base that desires longer-term leases and are focused on attracting and retaining a talented workforce.”
OPI: ‘A challenging backdrop for traditional office assets’
Although BXP is one of the larger publicly traded REITs, and the second largest office REIT behind Alexandria, according to the National Association of REITs (NAREIT), smaller office REITs are also placing an emphasis on diversifying into LSRE.
An example can be found in a recent announcement from Office Properties Income Trust (Nasdaq: OPI) and Diversified Healthcare Trust (Nasdaq: DHC). The two REITs announced April 11 that they have entered into a definitive merger agreement, through which Newton, Mass.-based OPI will acquire all of the outstanding common shares of DHC in an all-share transaction.
“DHC has an attractive portfolio of healthcare real estate assets, including a portfolio of medical office and life science properties, with a work-from-home-resistant tenant base, as well as private pay senior living communities that are expected to benefit from a strategic turnaround, a continued post-pandemic recovery and favorable long-term demographics,” he said.
“Against a challenging backdrop for traditional office assets, this merger provides OPI access to stabilized cash flows from DHC’s medical office and life science portfolio, and NOI growth potential from its senior housing portfolio.”
As of Dec. 31, DHC’s roughly $7.1 billion portfolio included 379 properties in 36 states and Washington, D.C., totaling approximately 9 million square feet of life sciences and medical office properties, and more than 27,000 senior living units.
During OPI’s Q1 earnings conference call April 27, Mr. Bilotto said, “This month, we also announced plans to merge Diversified Healthcare Trust, providing us with a tremendous opportunity to create a larger, scalable and more diversified REIT. This transaction combines two institutional-quality portfolios and better positions us to navigate office sector headwinds while providing embedded near- and long-term growth and value creation.
He continued, “Immediate benefits to OPI include increased scale and diversity and cash flow stability with the addition of attractive and life science properties as a complement to our established office portfolio, access to additional capital sources with a more favorable interest rate outlook, including low-cost GSE and agency debt and access to an institutional quality portfolio of senior living communities benefiting from growth through favorable healthcare sector tailwinds and a turnaround strategy currently underway.”
OPI will be the surviving entity in the merger and expects to change its name to Diversified Properties Trust when the merger closes, and will continue to trade on the Nasdaq Stock Market. The transaction was unanimously approved by the respective boards of trustees of OPI and DHC.
“The merger establishes the combined company as a larger, more diversified REIT, better positioned for long-term growth and value creation for OPI shareholders,” Christopher Bilotto, OPI’s president and chief operating officer, said in a news release.
The OPI-DHC merger is expected to close during Q3.
News Release: Office Properties Income Trust Announces First Quarter 2023 Results
The full content of this article is only available to paid subscribers. If you are an active subscriber, please log in. To subscribe, please click here: SUBSCRIBE
