Implications of COVID-19 for Life Sciences and Real Estate

The life sciences sector has received increased real estate investor and developer attention recently with new entrants into the UK market joining a handful of rapidly expanding established players.

The arrival of COVID-19 is clearly having a profound impact on societies and economies around the world. What impact is it having on the life sciences sector and what might be the short and medium-term real estate implications?

General picture

The life sciences industry sits right behind the healthcare profession in dealing with the Coronavirus crisis. A vaccine is the ultimate goal and countless businesses, ranging from global players to small start-ups, are directing enormous resources to developing an effective way to protect the population. Producing a vaccine that is ready for widespread deployment within even 12 months would be a herculean achievement and so in the meantime the focus must be on diagnostic testing and repurposing existing drugs to treat the disease. Again, the life sciences industry is stepping up to the plate to develop new and more effective diagnostics and to develop treatments, while labs running the diagnostic tests are operating flat out.

As a consequence, companies working in these fields remain strong and indeed are growing as more resources are needed to cope with the volume of testing required.

The loss of staff who contract the virus or need to self-isolate will clearly impact operations across the board, but laboratory research is already highly automated, albeit requiring skilled staff to operate the equipment and interpret results. Additionally, anyone working in a biology or chemistry laboratory is keenly aware of the need to avoid cross contamination and so vigilance over infection control will not be new.

We are also seeing businesses reduce levels of transmission between staff by breaking into small teams and operating shift patterns over longer days, seven days a week.

Impact on real estate

As with all industries at the moment, there will be concern about the short-term viability of life sciences companies and the impact on current rent rolls and future developments.

The majority of life sciences businesses in the UK are small or medium sized entities, often based on science parks or in multi-occupier buildings. Only a fraction will be working on addressing the challenges of COVID-19 so others will be concerned with mitigating the impact of the virus outbreak on their business.

In the world of drug discovery and development there are broadly two types of companies: those developing therapeutics or vaccines; and those providing discovery and development services to the therapeutics and vaccines companies.

The lengthy time it takes to bring a new drug to market means therapeutics companies operate on very long timescales of 10-15 years. The large pharmaceutical companies, such as GSK and AZ, are well resourced and will no doubt continue with R&D in as normal a way as possible, taking measures to protect staff and maintain activity. We are not detecting any sensitivity around these rental streams.

The smaller drug discovery companies tend to be venture capital backed. They will have raised investment for the sole purpose of progressing the development of their innovative products. Consequently, they will want to be pressing on with product development as fast as circumstances allow.

This is good news for the discovery and development services companies to whom much of this work is outsourced. Provided the companies are well funded, the therapeutics businesses should survive and the service companies that support them will do so as well. A caveat to this concerns any company involved in clinical testing of products, either directly or as a service. These could be significantly impacted as most trial activity has now been put on hold to free up resources for the Coronavirus fight.

A key concern will be the ability of the service companies to deliver on contracts if a significant proportion of the workforce is in isolation, if the supply chain in laboratory supplies starts to shut down or if there is a total lockdown and people simply can’t access the labs. If any of these factors start to apply, we may see some companies, especially those developing therapeutics, going into hibernation to preserve cash. This is being observed so far on a small scale in the form of requests for rent deferral and discounts or the surrendering of space where leases allow.

Another area of risk lies with those venture-backed companies that are in the process of raising their next round of investment. These businesses have a greater chance of failure over the coming months as investors inevitably draw breath and wait to see how events unfold.

Companies with pharmaceutical and medical products on the market are unlikely to see a fall in demand, possibly the opposite, but here the challenge will be in manufacturing and logistics. The impact on businesses will depend very much on the length and severity of the outbreak and the proportion of the workforce that is unable to work.

The main challenge for many companies in the life sciences sector is that laboratories are an absolute necessity. If there is a complete lockdown then many will struggle as working from home is not an option.

There will undoubtedly be some companies in the sector that don’t survive, but the Chancellor of the Exchequer’s announcement on 20 March, that the government will support 80% of the wage cost of employees who are not working (up to £2,500 per employee), will help minimise this. Salary costs generally account for between 40-70% of total costs of a life sciences company so for those companies that find themselves unable to operate, the Chancellor’s initiative will certainly help. Rent by contrast, is usually less than 20% of costs but we are still starting to see some flexibility from landlords seeking to help keep companies afloat where they can.

Looking forward

Whilst businesses in the life sciences sector are in an enviable position compared to many other sectors, there is inevitably nervousness about the future, which will feed into caution about expanding and taking on additional space unless absolutely necessary. As a consequence, there may well be a short term tail off in the growth in occupancy in the sector which was running at breakneck speed until recently.

Funding for the sector may well increase still further once normality returns. The UK government had already committed to more than doubling funding for research to £22B annually, a significant proportion of which would be directed into life sciences - both academic and corporate. The advent of the pandemic has only further highlighted the importance of a strong pharmaceutical research base in the country. While the huge national debt burden resulting from the crisis might tempt ministers to cut back, there is a strong sense that spending on the industries of the future is going to be even more important in the post-pandemic world. Venture capital and corporate investors, who have been ploughing record-breaking amounts into the sector in recent years, are likely to continue to invest given the fundamentals haven’t changed, although a short-term downturn is inevitable and already becoming apparent. It is even possible that UK-based discovery and development service companies will see an increase in demand as contracts that were previously offshored to China and elsewhere are returned home to ensure greater security of supply. A trend that was already underway and could accelerate.

All of this points to further growth in demand for space from life sciences companies after a short-term hiatus, with the shortage in supply of laboratories resurfacing as an issue for these companies.

Light at the end of the tunnel

In the current climate, forecasting even what will happen next week is impossible, and predicting what will happen in the life sciences sector is no different. However, we can gain comfort from the fact that this is a vital sector not only in the current battle, but also in the future rebuilding of the economy. Life sciences businesses are likely to be less affected by the measures taken to control the pandemic than those in many other sectors and the recent treasury initiatives will further help.

The fundamentals of the sector remain strong and it is likely to continue to be attractive to venture, private equity and corporate investors over the coming years, driving growth and demand for laboratory facilities.

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Adapted from an article first published in Property Week on 17 April 2020.