The Pandemic Didn't Stop Venture Capital From Flowing Into Houston's Life Sciences Sector This Year

It’s been a tough year for some sectors of Houston’s economy, but commercial real estate experts say that there has been one significant bright spot: life sciences.

Despite the coronavirus pandemic, plenty of money is flowing into the sector, spurring many of Houston’s life sciences firms to expand and seek larger spaces. That remains a challenge in the short term, as the city lacks speculative lab space, and several major life sciences-focused developments have not yet reached completion.

“They're all having a problem with growth. I think our biggest issue is that we don't have enough supply for them,” Transwestern Executive Managing Director, National Healthcare Advisory Services Eric Johnson said.

Johnson said that nationally, he has seen more venture capital flow into the life sciences sector this year, including companies that are already based in Houston.

“It's coming into their own operations. It's also coming into their real estate budgets, but we're seeing the local companies get access to more capital, they're growing quicker. And they're looking for more real estate alternatives,” Johnson said.

NAI Partners associate Zach Leger has been working with life sciences companies for the last few years in Houston to find space, and he agrees that there has been a major increase in funding for the sector since the onset of the pandemic.

“For a lot of groups, it's been beneficial, because if you were any sort of scientist screaming about needing funding for disease, guess what the outcome of this is?” Leger said. “You don't hear about it all the time. But there are groups quietly raising a lot of money here.”

Life science companies in Houston typically spin out of the major medical and academic research institutions, such as Baylor College of Medicine, MD Anderson, University of Texas Health Science Center and Methodist Hospital, Johnson said.

Many of them start off in the TMCx accelerator program, which provides specialized lab and office space. Others find space at Johnson & Johnson’s JLABS incubator or at The Center for Device Innovation. All are located within the Texas Medical Center.

“As they grow from there and they receive more funding, or they become commercialized with other companies or venture capital, we see them begin to grow, begin to recruit,” Johnson said.

The main problem that maturing life sciences companies in Houston face is the lack of speculative or available life sciences space that can allow for expansion.

“What I personally have seen is a lot of people looking for smaller lab space for R&D,” Leger said. "And one of the biggest challenges becomes, where do they go once they've graduated from like an incubator program with the TMC or JLAB?"

Leger said that property owners near the Texas Medical Center have started to put together speculative lab space, but that can be expensive to build. Many life sciences firms find that moving into that space would cost too much and take too long.

“I've helped people look at lab space, all in that south of the Texas Medical Center area, and a few of them have landed,” Leger said. "But a lot of them have made the decision that they need to look elsewhere, unfortunately."

Houston’s political, business and medical leaders recognized the issue years ago, which is why there are several major life sciences and innovation developments in the works. Those include TMC3, which is owned by the Texas Medical Center; Rice University’s The Ion project; Hines and 2ML Real Estate Interests’ Levit Green; and Medistar Corp.’s Innovation Tower, as well as the forthcoming Texas A&M Innovation Plaza development, which will include medical office and lab space within its Horizon Tower.

Since the Texas A&M Innovation Plaza project was announced in February, Medistar Corp. Senior Vice President of Development and Acquisitions Craig Laher said his phone has been ringing off the hook, particularly from companies based outside of Houston.

“There's a keen interest in this Houston market, of growth and life sciences, biomedical research in the Texas Medical Center in particular,” Laher said. “There are some local companies naturally, but we're seeing a lot come in from outside of Houston that want to learn more and want to be in Houston.”

Johnson said the pandemic has not put the brakes on the growth of life sciences firms in Houston, and that even this year, some have been forced to lease space in multiple locations because of how fast they are growing.

“There's some smaller partners that are just maybe upsizing, going from a smaller space to another space, and they're finding space that they can move into,” Johnson said. “But I think the biggest thing is as you become larger in size, and as you start to really scale up, it becomes difficult in Houston currently to put everything together in one place.”

During the earliest days of the pandemic, the U.S. experienced a severe shortage of medical supplies, calling into question the wisdom of having so much of the supply chain based in other countries.

Now, there is growing confidence that more medical manufacturing activity will return to the U.S., a prospect that could amplify Houston's standing as a medical research and development hub.

“It's evident that the U.S. was caught flat-footed by outsourcing key components of our pharma and med device manufacturing abroad,” Johnson said. “The pandemic has exposed several weaknesses in that strategy. Our politicians [and] large U.S. companies are mobilizing to bring these key components back home.”

Houston has several things in its favor, including a major port, the largest medical center in the world, significant industrial infrastructure, a central location and lower costs than Boston and the Bay Area, the two dominant life sciences markets. Johnson said that in order to capture the demand coming from other countries, the city will need to consolidate medical manufacturing facilities in certain areas.

“I think there'll be clusters that will be created for this manufacturing in business parks — life science manufacturing bio parks that will need to be created,” Johnson said.

Leger also said that he sees more medical manufacturing return to the U.S. in the wake of the pandemic. NAI Partners has spoken with groups outside of the U.S. that are looking at Texas to build manufacturing facilities because of the state's tax incentives and relatively cheap land.

"The difference in pricing for lab space in Houston [for] rent is night and day. You can rent 40K SF of lab space in Houston for the cost of 5K to 10K SF in New York City or Boston,” Leger said.

The scarcity of land in the Texas Medical Center and its market-leading costs means that medical manufacturing facilities will need to be built farther out of the urban core. The economics of land cost and potential rent simply don’t allow for an industrial development in the area.

“You're probably talking ... a factor of 30 times the cost of land that you would generally want to see for an industrial development,” Laher said.

There are some logical alternatives. Johnson and Leger pointed to Pearland, which lies about 18 miles south of the Texas Medical Center and is already home to many of its employees.

The area has already caught the attention of a major Swiss pharmaceutical firm. In 2018, Lonza opened a 300K SF dedicated cell and gene therapy manufacturing facility in Pearland, purpose-built with the ability to scale up manufacturing activity if needed.

“Now that [Highway] 288, the toll road is done, it's very easy to get in and out of the Med Center into Pearland. And you're kind of getting that agglomeration effect of the workforce there,” Leger said. “I think Pearland would be No. 1 on a lot of lists, the fact that it's cheap, and it's close to the Med Center.”

It’s still relatively early, but in order to attract medical manufacturing back to the U.S., Johnson said that government leaders at multiple levels will need to get involved.

“It begins and ends with our leadership in the government,” Johnson said. "Our leaders within the U.S. government, starting with the president, his staff and then the leadership within the state of Texas, Gov. Abbott and his staff."

The flurry of life sciences-related developments underway is evidence that the sector was already a focus for many developers and business leaders prior to the pandemic.

Johnson said that in particular, the TMC3 development is attracting significant attention from companies outside of Texas. Transwestern has not yet executed any leases for TMC3, but Johnson anticipates that the first announcements will be made in the next few months.

Aside from the growth of Houston’s existing companies, and the expansion of others into Houston, there is also another possibility: a large corporate relocation. Texas has seen a number of head-turning corporate relocations in 2020, including Hewlett Packard Enterprise, Oracle and CBRE, in addition to Tesla’s $1.1B electric vehicle factory in Austin.

Johnson said that for the same reasons that medical manufacturers and other life sciences companies are now looking at Houston to establish operations, a corporate relocation of a major pharmaceutical or biotechnology company is likely in the future. In particular, the presence of major clinical trials and funding in Houston could act as an additional incentive.

“The market fundamentals within the life science sector are very stable and have been, during even this time of disruption. And it bodes well with investors, the resiliency of our tenant base within the life science sector,” Johnson said.