Life Sciences: What are LSRE lenders looking for?

Cash-flowing, core-type assets are king these days, RevistaLab panelists say

By Murray W. Wolf

PASADENA, Calif. – Getting financing for a life sciences real estate (LSRE) deal was relatively easy in 2020 and 2021. Whether for acquisitions, new development or conversions – even entirely speculative projects – life sciences was red hot, and lenders lined up for the chance to get in the game.

But, of course, things changed in 2022 and 2023. With reduced life sciences funding, rising interest rates and millions of square feet of new space coming online, financing has gotten hard to come by.

So what are lenders looking for now when it comes to the LSRE space?

That was one of the topics explored during a panel discussion at the RevistaLab Life Science Real Estate Investment Forum in Pasadena, Calif., Feb. 29. (Due to the length of the session and the volume of information shared, BREI is presenting the first part of the discussion this week and will present the second half in next week’s edition.)

The hour-long session, titled “Debt Financing: Unlocking Financial Frontiers in Life Science,” was moderated by Sabrina Solomiany, the Atlanta-based senior managing director of investment sales and national head of Medical & Life Sciences for Berkadia, a commercial real estate financing firm.

The other panelists were:
■ Joe Dominguez, a director with BMO Healthcare Real Estate (HRE) Finance, based in Chicago;
■ Andrew Pyke, the Baltimore-based head of HRE for Nuveen Real Estate; and
■ Natalie Sproull, a senior director with Chicago-based Capital One Healthcare.

The panelists began by introducing themselves.

Ms. Sproull explained that Capital One Healthcare provides secured first mortgage financing for all different types of assets within the HRE spectrum. When it comes to LSRE, she said her firm typically focuses on the four primary clusters in and around Boston, San Diego, San Francisco and Raleigh-Durham, N.C.

“We have been an opportunistic lender, I would say, in the space over the last few years,” she said. “We’ve done a couple transactions. (We) typically target something a little bit more stabilized that has in-place cash flow.”

Mr. Dominguez said, “BMO’s an experienced lender across many asset types, but is just entering the life science sector. Obviously, we see alignment with our work across healthcare, which our book right now is roughly 50-50 senior housing and MOB (medical outpatient buildings), and then we’re looking to expand into sort of affiliated post-acute care types.”

Mr. Pyke explained that Nuveen is the investment arm of its parent company, TIAA.

“We’ve got about, overall, over $1 trillion of assets under management (AUM). About $150 billion of that is real estate globally. So we’re a top-five real estate manager. I head up our Healthcare Group. I focus predominantly on the equity side, but I also work closely with our financing, lending side.”

Mr. Pyke said that Nuveen does about $5 billion to $6 billion of lending every year and “life science was a big part of it the last couple of years.” He said the firm has about $1.8 billion in life science loans on its books.

“I think in this world of exciting interest rates it’s sometimes that the debt returns are better than the equity returns. So, some of our equity money, we started looking at putting it out as either preferred or debt equity or mezz or… any structure that makes sense.” (Mezz, or mezzanine, debt – sometimes called subordinated debt – is a type of financing that bridges the gap between senior debt and equity.)

“Nuveen tries to make loans “that maybe the banks maybe may not be able to do,” he continued. “But we can be more flexible on the equity side…”

Ms. Solomiany of Berkadia said, “We do investment sales, debt placement, JV (joint venture) equity and all types of capital markets advisory work coast to coast. We cover all things healthcare and life sciences.”

Why life sciences real estate?

Directing her first question toward Mr. Dominguez of BMO, Ms. Solomiany asked, “Joe, you guys are newer to the space. Why? Why life sciences?”

“There’s a strong alignment with our existing businesses and we see the growth that’s coming,” he replied. “Obviously, there’s been a pullback in dollars flowing into the sector as compared to 2021 or early 2022. But when you look at what’s happening in terms of acceleration of the science demand and… of dollars flowing into the sector now relative to historical, we’re kind of right where we were pre-pandemic. And so we see a lot of opportunity and a lot of growth in the sector.”

Noting that Ms. Sproull had mentioned in her introduction that Capital One Healthcare lends for selected LSRE transactions, Ms. Solomiany asked, “I think when I talked to you five years ago, that was not the case. So why? What made you guys jump into the sector?”

“We’ve always been very sponsor-driven,” Ms. Sproull replied. “So what we really saw was a demand from our existing client relationships to kind of take this step into this new life science market.

“So Capital One has never really been an early adopter of anything. We like to take our time, understand the real estate before we get involved. So even as we had clients eight-plus years ago kind of reaching out on these life science lab buildings, we didn’t understand it enough. We didn’t have quite the build-out, I guess, to take on an underwriting.

“And as demand continued to grow in the space, it was something that we said, ‘Okay, for our top relationships, this is something that we should try to wrap our heads around.’ So, for us, that’s kind of like the ‘why.’ It was really just driven by our existing clients wanting to get some exposure to the space.

“For what we’ve been looking for over the last five years, again, I kind of mentioned those four core geographies that we like to be in – not to say that we wouldn’t go somewhere else that has a reason for the tenants to be there, whether it’s a university sponsorship or a very strong growing market or very strong pre-leasing in a building whatever it is. But we really targeted those geographies.”

Ms. Sproull noted that, during the past five years, the industry has seen “the crazy expansion of the space, tons of tenant demand, rental rates that I’ve never seen before.

“I remember vividly a site visit to Boston and a broker was telling me that for a space they had rolling in three years, they had a forward commitment for 50 percent more than the existing tenant was paying that day. And I just was like, ‘This is crazy! I’ve never heard that before.’ And so, obviously, we liked the fundamentals of the space. We liked all of that.”

She noted that in the past year or two, “the funding has kind of come down. Tenant demand maybe isn’t quite as strong right now. But we still see it as very strong real estate, and we still see it as being a very sponsor-driven asset class that we would like to support…

“We just tend to lean more stabilized,” Ms. Sproull continued. “We’ve seen all the conversion deals come through, all in typically very strong markets with strong sponsors. We are a regulated entity. We do have certain parameters that we have to meet for new loan originations, and part of those are debt-service coverage parameters that no one likes to talk about. But, unfortunately, they do exist. And so we’ve really had to size based on that, which therefore leads to us looking at deals that have existing cash flow – which isn’t quite as sexy as some of the really interesting stuff that’s going on out there and probably the main driver as to why I would say we’ve been a little bit more selective than other lenders.”

Turning to Mr. Pike, Ms. Solomiany noted that Nuveen has been active in the LSRE space for some time.

“We have,” he replied. “We started on the equity side in 2016. And then on the debt side shortly thereafter – actually in 2015. It doesn’t matter who’s first. We’ve been to have been in the space almost 10 years now.

“I think (in) 2022, we did about $700 million on the lending side, just in life science – a couple big deals with… some of the best sponsors out there.

“Last year, really, we didn’t do any deals in the U.S. We actually did a deal in Amsterdam on the life science. So, again, Nuveen’s global. So it seems like Europe kind of tracks the U.S. five years behind. So they’re seeing a lot of the life science demand in Cambridge and U.K. and Amsterdam now. So that’s kind of interesting.”

Nuveen recently provided a €35 million senior secured loan to Breakthrough Properties, a JV of Tishman Speyer and Bellco Capital, to finance the acquisition and construction of the 100 percent pre-leased One Helix office and lab building in Amsterdam.

Mr. Pike continued, “But, I think for 2024, I think this space has recovered. I think there’s a couple markets that have some might say a lot of supply, and traditionally those markets have been doing really well. I think we’re still looking in those markets, but also looking, expanding our kind of investable universe, or lending universe, to some of the up-and-coming markets, like a Boulder (Colo.) or Raleigh… Then even other cities…. We have a big presence in New York, which hasn’t been a big life science market. But it’s got all of the ingredients to be a life science hub. And it’s got all the fundamentals that we like, just from a real estate perspective.

“So we’re kind of expanding our universe of investable and lending markets,” he added, noting that if a major research institution is involved as a sponsor or major tenant, “that really helps us get comfortable on the lending side and the equity side.”

What are lenders looking for?

Turning back to Ms. Sproull, Ms. Solomiany asked what types of deals Capital One Healthcare is looking for.

“Is it more location-driven? Somebody said cash flow, but is it more core-type assets, core-plus?” she asked.

“It ends up being the core, core-plus type assets,” Ms. Sproull responded, “just given the parameters that we have around new debt financing… Not to say that we haven’t taken a look at transactions that do have some sort of TI (tenant improvement) component or cap-ex (capital expenditure) component where we’re building out space.

“We have a pretty fantastic life science team who’s sitting in the room right now. They have far and away become experts in the space. And so I think they’ve done a really nice job of understanding like the different types of build-outs, what we want to look for. Do we want the wet lab? Do we want dry lab? What are the HVAC (heating, ventilating and air conditioning) systems? And truly enable the tenants to have the space that they need.

“So, you know, every deal is going to be a little bit different. We don’t like to necessarily put anything up in a box. I did mention the four core geographies. I mentioned that we want things to be somewhat stabilized and cash-flowing. That being said, if you have a building that’s, let’s say, 80 percent leased with really strong life science tenancy and 20 percent of that is something you want to look at maybe building out in a different way, (we’re) always happy to take a look at it.

“You know, Capital One is typically pretty good on TILC (tenant improvement and leasing commission reserve) fundings; we’ll do 100 percent of future fundings. There are no capital calls after the fact, once you’ve closed the loan that’s always kind of a portent to everyone. So we try to be dynamic, we try to be flexible – as long as… there’s some stability in the portfolio or the property on an existing basis.”

Mr. Dominguez said BMO’s approach is akin to that of Capital One Healthcare.

“As we enter the sector, the first deals that we’ve pursued follow a similar profile. Construction complete but somewhat pre-stabilization, some component of value-add there. Cash flows need coverage, mostly consistent with our other sectors. So sort of similar risk profiles and follow similar coverage metrics, and really looking at the core.

“I’d say not necessarily just top four (markets), maybe top five to 10 markets. And then, again, alignment in terms of sponsor, in terms of sort of what’s happening there… What’s the rationale? Is it that a university? Is it some other sort of component that rationalizes why they’re there now? And if… something happens, is their key man risk or whatever for the research that’s happening there, who’s going to step in and be that replacement tenant? So there’s a level of comfort with this being a long-term asset, life science asset, regardless of sort of the term of our loan.”

Mr. Pike said, “We can be a little bit more flexible.” He noted that although Nuveen is “still heavily regulated,” it can offer equity as well as debt.

“I think our lending team has the normal, very similar lending standards,” he said. “But when you’re kind of saying, ‘Alright, we’re going to use our equity dollars,’ … we’re comfortable at a certain basis, or can kind of structure it a little bit different way, (which) allows us to look at a lot of different things now…

“I wouldn’t say we’d be all in on a ground-up spec construction building right now,” he said. “But I think if there’s a conversion or a reason or kind of understanding the actual real estate and the tenancy, we can get pretty creative on the financing.” He added that Nuveen is also open to a range of geographic markets.

Ms. Solomiany asked if, as a provider of both debt and equity, if Nuveen ever structures transactions involving both.

“We would never lend to ourselves,” he replied, “because you could never… foreclose or do anything.”

“That’d be fun,” Ms. Solomiany said. “Like a developer has a project or group operator has a project and they want you to come in as a JV partner on the debt.”

“Yes, we’ve definitely looked to that,” Mr. Pike said, “and… I’ve had a lot of conversations with different groups.” He noted that Nuveen is also the nation’s largest C-PACE (Commercial Property Assessed Clean Energy) lender. C-PACE can be a source of relatively low-cost, long-term funding for energy-efficient properties. It can supplement equity and senior debt in the capital stack (the structure of the capital funding a transaction).

A place for C-PACE

“Nuveen Green Capital is the largest PACE company,” Mr. Pike said. “I don’t know if you guys are comfortable with PACE, but slowly banks are getting there, where PACE can actually be a substantial part of the stack.” He noted that more properties qualify for PACE financing than might be expected. He added that with a combination of senior debt and PACE financing, perhaps also preferred debt, “You can get pretty high on leverage… You can get to not the go-go days of 75 percent, but you can get pretty close.”

He said that C-PACE financing can account for up to 35 percent of the capital stack for ground-up development, and can also be used for conversion and TI, as long as the uses contribute to increased energy efficiency.

“And it’s kind of an interesting way to get the higher capital stack, and it actually blends to a relatively attractive cost of capital because PACE is cheaper than you think it is,” he said, adding that the availability of C-PACE financing depends on the location.

“More states have it now than they did a couple years ago,” he said, “but it’s still state by state.

“It’s something that that we’ve seen come through in a few deals,” said Mr. Dominguez of BMO, “not just in healthcare but across sectors that we lend in. I actually have not done one of those deals, but I know our team has, and certainly I think the key for comfort is just solving for the specifics of that position and whether it’s a reserve or something else for the duration of that C-PACE piece.”

Ms. Sproull of Capital One Healthcare said, “I think for us, if we’re trying to drive higher leverage, the capital stack, that’s one option. The other option is we have a unitranche product where we’ve a co-lending relationship with Kayne Anderson,” a Boca Ratan, Fla.-based real estate investment firm which, according to its website, has about $15 billion in assets under management (AUM) “across opportunistic equity, core equity and real estate debt, with sector expertise in medical office, seniors housing, off-campus student housing, multifamily housing and self-storage.”

A unitranche loan blends senior and junior debt pricing and terms into a single first-lien debt facility rather than creating two classes of debt and coordinating among multiple lenders, providing borrowers with a single lending entity, increased certainty of execution and a blended interest rate.

“It’s essentially it’s a one-loan solution where if, let’s say, Capital One will go up to 60 or 65 percent, Kayne Anderson will take it with, in theory, a mezz piece all the way up to 75, possibly even 80 percent, depending on what the loan metrics look like.”

“So that’s another way that we’ve kind of found over the last few years that were able to push leverage within the capital stack while kind of getting outside of the regulatory requirements that we have as a bank,” Ms. Sproull said, “because we’ll make sure that piece is still at that debt service coverage that we like to see, but then Kane is able to get a little bit more flexible since they’re a finco.”

Allocations for LSRE lending?

Ms. Solomiany then asked the panelists if they or their firms had specific allocations, or lending targets, for LSRE in 2024/

Ms. Sproull said Capital One Healthcare doesn’t have a specific allocation in mind, but it doesn’t have exposure limits, either.

“So we’re kind of like, ‘To the moon and back,’ as they say… which I think is why we’ve been able to grow these really great relationships with our clients… If they’re looking at another transaction, they know we’re not necessarily going to run out of money. So while we don’t have a specific allocation, we are more than happy to take a look at any deal that comes across to see if it kind of works for us,” although she did reiterate that Capital One Healthcare will continue to be selective regarding the deals it funds.

Mr. Joe Dominguez of BMO said, “We also do not have a specific allocation, as we kind of look across all the sectors that we’re lending in.” However, he added the firm has a desire to grow in sectors that are still considered “alternative,” including healthcare, life sciences, self-storage and student housing.

“Obviously… we’re still, of course, lenders in industrial and multifamily in the other core asset types<” he added. “But there are pressures and cyclicality to everything, and so increasing exposure to the alternatives – quote-unquote – is a strategic priority for us.”

Mr. Pyke said Nuveen’s position is the same.

“I think it’s honestly it’s kind of interesting,” he said, because in a “normal” year, Nuveen is “always looking at the volume.” But, in 2024, “I think the volume is a little more subdued for everybody…

“We still, of course, have capital to put out,” he continued. “The volume is more subdued, but I think that allows us to do smaller loans.”

Historically, Mr. Pike said, Nuveen hasn’t been a very active lender in life sciences or medical real estate because the average deal size has typically been smaller than it would like. But, he said, “I think right now we have the resources and the capabilities to look at unique, different loans, even if they’re a little bit smaller than we’ve traditionally done… We kind of have the ability to look at pretty much everything… Everything is judged on its own individual asset risk profile and so, where exposure makes sense, that’s how we’re approaching it.”

Ms. Solomiany asked if Nuveen considered life sciences part of the office sector.

“It does,” he replied, “but we have it as a sub-sector.”

Natalie Sproull of Capital One Healthcare said, “All of our life science underwriting still falls within our medical office team. So, that’s kind of how we would categorize it.”

Ms. Solomiany then asked the panelists how they underwrite life sciences properties versus medical properties.

Mr. Dominguez replied that BMO analyzes the risk profile of those assets much like it analyzes that of core real estate assets.

Mr. Pyke of Nuveen said, “As we’re looking at stuff, the debt service is important. I think a lot of people are looking at… TIs and basis now a lot more than they were, because obviously the rent growth has been so spectacular over the last five or seven years that you could justify these massive TIs because you’re like, ‘Well, rent’s going to be 20 bucks higher so it’s okay.’

“I think a lot of the underwriting has tightened in terms of rent growth TIs where that funding is coming from – you know, similar to medical,” he continued, adding that the potential reusability of the space is also “massively important.”

“Everybody that was kind of an office expert pre-COVID is now a life science expert,” he said, “and so there’s a lot of conversion of office buildings. But, you know, the HVAC’s not quite right, or there’s, ‘I didn’t know I had to do this.’

“And I think it’s also kind of interesting on the research side how much space is used for actual wet lab and I’ll use the buzzword, AI (artificial intelligence).” He noted that the mix of lab and office space has traditionally been about 50-50, “and now it’s actually kind of creeping more office space than the wet lab requirements…”

Editor’s note: Due to the length of the session and the volume of information shared, BREI is presenting the first part of the discussion this week and will present the second half in next week’s edition.