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From Site Selection magazine, March 2011

The Perfect Storm?

Simultaneous undercapacity and overcapacity pose challenges for biopharma firms.

Originally constructed but never used by Eli Lilly & Co., the Covance facility (gray roof) located in Innovation Park in Prince William County, Va., is now on the market again, even as the company expands in such locations as Indiana and China.
Photo by Roger Snyder

Dan Loughlin, managing director of brokerage services, Jones Lang LaSalle
Dan Loughlin, managing director of brokerage services, Jones Lang LaSalle

s if mergers and acquisitions weren't keeping biopharma-sector real estate managers busy enough, the ground is shifting beneath their feet with respect to the types of facilities their organizations now require and where in the world they need to be. Most pharmaceutical facilities were built to support chemical-production processes, which today are giving way to biologics-based solutions that require different infrastructure. At the same time, patent expirations are redefining property requirements, and contract manufacturers' increased role further reduces the need for production space. 

Meanwhile, the traditional geographies that have formed the basis of firms' revenue growth — North America and Europe — are now maturing markets, creating issues with overcapacity. But there's also a continual need for research and development that leads to new products, meaning continual re-tooling, upgrading and expanding.

Firms readying new drugs for mass production face a dilemma, though. Older facilities that are under capacity because demand for older-generation drugs has dropped off aren't always appropriate for the production of new-generation drugs.

"There is a glut of older pharma real estate out there, but a lot of older plants that are closing are beyond their useful life, and there aren't a lot of biopharma companies that would have new use for them," notes Dan Loughlin, the Parsippany, N.J.-based managing director of brokerage services with Jones Lang LaSalle.

Asset Recovery vs. Facility Marketing

Just how much of a facility to sell also can be a touchy subject, Loughlin says. "There can be some friction between a firm's corporate real estate team and its asset recovery team. The asset recovery group may want to cannibalize a decommissioned facility, so they can reuse whatever equipment they can as a way to lower new capital purchasing expenses."

On the other hand, "You have the corporate real estate group saying that if everything gets stripped out, it's going to be more difficult to retain the facility's value when they go to sell it."

This adds to the challenges in marketing older facilities, which may have already dropped in value because they are no longer validated for the products that they had been producing prior to shutdown. So, even if another pharma company wants to manufacture the same product at the facility, it would have to go through validation all over again — a lengthy and costly process that adds to the hidden cost of reusing a brownfield site.

"The cost of retrofitting an older pharma facility isn't always cheaper than doing a greenfield project," Loughlin says.

Downsizing and Upsizing at the Same Time

Many firms are in the situation that drug development company Covance is in. As it works to right-size its real estate portfolio, the Princeton, N.J.-based firm is trying to dispose of excess real estate, even while it opens new facilities in other locations.

Covance's conundrum started in November 2007, when it purchased a partially constructed, never-completed insulin plant from Eli Lilly. At the time, the company saw the site as a way to consolidate multiple Northern Virginia offices into one location — a science and technology park in Prince William County. Covance purchased the property for US$20 million, and received $2.5 million in incentives to build out the existing steel shell as a lab.

Less than a year later, in August 2008, the company purchased another Lilly asset — a preclinical research facility in Greenfield, Ind. — for $50 million.

But then the market turned.

"When the housing bubble burst, Covance put its plans for the Innovation site on hold," says Jason Grant, communications director for Prince William County. "The company made no plans to sell, but also made no move to get shovels in the ground."

And there things have stood, until January 2011, when the firm decided that it was time to let go of the site.

"The Innovation property is for sale," confirms Covance spokesperson Melissa Thompson. Meanwhile, Covance is adding to its portfolio, including a facility in China, she says. "Plus, we have acquired two new sites through our agreement with sanofi-aventis." The company also is expanding at certain locations, such as the Indiana site it purchased in 2008.

Despite Slowing Growth in Some Markets, Expansion is Happening

For an industry driven by discovery, there will always be a new opportunity around the corner. It's just that it might not be the same corner where the last opportunity presented itself. Hence, the overcapacity coupled with undercapacity situation.

"In mature markets like the U.S. and Europe, companies are looking to rationalize what they have and dispose of excess capacity," Loughlin says. "When expansion is happening, it is to follow where companies think their consumers will be, and this is oriented toward the Asia-Pacific [region] and Latin America."

Other U.S. locations — longtime homes to industry clusters — also continue to see new development, such as the Research Triangle in Raleigh-Durham, N.C., which has taken an aggressive incentives stance to remain competitive, and the Boston-Cambridge metro area.

Even firms disposing of excess capacity in one part of the country are still interested in the Boston area, which they see as a prime location for new drug development activities.

"Almost every research-based pharma company wants to tap into this talent pool, and the unique mix of universities and hospitals here, " says Loughlin, who along with Jones Lang LaSalle colleague Matt Highfield, represents a "Who's Who" of players in the pharmaceutical industry, including Amgen, Merck, Novartis, Pfizer, Roche and sanofi-aventis.

Highfield, Jones Lang LaSalle's senior vice president for strategic consulting, points out that biopharma firms have different drivers than companies in search of low-cost labor pools or cheaper operating costs.

"Boston has among the highest lease rates for R&D in the country. But these companies are going for talent, not necessarily lower real estate or labor costs," Highfield notes.

Among the major players expanding their Boston-Cambridge footprints: Novartis and sanofi-aventis. And in January, US Biological announced a decision to build an 81,000-sq.-ft. (7,525-sq.-m.) manufacturing and headquarters facility in Salem, Mass. The company supplies biochemicals and antibodies to academic institutions, pharmaceutical companies and biotechnology firms.

Firms that have recently announced facility expansions in North Carolina's Research Triangle include Novo Nordisk, Talecris, APP Pharmaceuticals and Salix Pharmaceuticals.

Companies also are broadening their focus beyond the traditional academic centers of scientific discovery, according to Highfield.

"There has been a marked change in the way firms deploy their research teams," he says. "We are starting to see companies deploying lots of smaller teams, collaborating with more universities in more creative ways to increase the likelihood of new discovery that would lead to bringing a new, lucrative drug to market."

One firm that is ramping up its research activities outside the Boston-Raleigh orbit is Pfizer, which is partnering with Washington University on a $22.5-million project that gives scientists access to Pfizer research data. The goal is to encourage discovery of new uses for existing compounds, according to company officials. The partnership is building out 8,500 sq. ft. (790 sq. m.) of unfinished space in St. Louis' Center of Research, Technology and Entrepreneurial Expertise (CORTEX) as a state-of-the-art lab, offices and conference areas.

Greater Philadelphia and the Lehigh Valley also have recently welcomed major projects. Daiichi Sankyo Inc. (DSI)in February announced it would invest $19 million and employ 80 at its first U.S. manufacturing and packaging plant in Bethlehem, Pa., a 140,000-sq.-ft. (13,006-sq.-m.) building it acquired for $10.25 million from packaging manufacturer Amcor. The building is expandable to 225,000 sq. ft. (20,903 sq. m.).

"This acquisition diversifies our company's capabilities and allows us to streamline our operations and minimize commercialization risk by exerting greater control over the life cycle of our products, from research and development through packaging and distribution," said Jeff Lane, vice president of operations for DSI, who thanked the Governor's Action Team, Lehigh Valley Economic Development Corp., Northampton County and the City of Behlehem.

According to site consulting firm McCallum Sweeney, DSI conducted its initial nationwide search way back in 2008, evaluating 62 sites in 48 communities in 12 states.

In Philly, GlaxoSmithKline announced it would move from center city to a new leased $81-million headquarters at Navy Yard that will be developed by Liberty Property Trust and Synterra Partners. The 205,000-sq.-ft. (19,045-sq.-m.), four-story building will be designed by Robert A.M. Stern Architects (which worked with Liberty on the city's iconic Comcast Center) to achieve LEED Platinum certification. It will encompass a number of open, collaborative workspace features.

The facility will also offer a wide variety of amenities, such as a fitness center, restaurant, retail services, and free parking for employees and visitors. The Navy Yard Corporate Center, in which it is based, provides park space with walking paths, fields for sports leagues and even a putting green.

Site work was scheduled to begin as early as the end of February, with construction of the building commencing in late summer. GSK will move all employees currently based at the One and Three Franklin Plaza buildings in Center City Philadelphia to the new building between fourth quarter 2012 and first quarter 2013, immediately after completion. The company has signed a 15.5-year lease.

"We are delighted to continue our proud Philadelphia history, which dates back to 1830, and to offer our employees an exciting and collaborative new work space," said Deirdre Connelly, president of GlaxoSmithKline North America Pharmaceuticals, herself a Philadelphia resident. "This facility, with its environmentally friendly and efficient design, aligns with our global commitment to work smartly and operate as a green company."

The project is yet another feather in the cap of the Philadelphia Industrial Development Corp., which has welcomed several landmark projects in the past two years as it oversees the redevelopment of Navy Yard.

Hot Spots, Cooling Conditions

If some markets are about right-sizing and rationalizing corporate real estate portfolios, then other markets are about how to best capitalize on opportunities, such as the vast pools of customers firms are finding in Asia and Latin America.

But in this highly regulated industry, there are other key location drivers as well. Regulatory and legislative changes can help attract more investment — or can lead to mass exodus, depending on circumstances.

In Japan, for example, regulators have taken steps to shorten approval timelines for new drugs. The efforts have not gone unnoticed by industry players, including Covance.

In September 2010, the company opened a new central trial laboratory to conduct safety testing of clinical trial samples in Kawagoe City, Saitama Prefecture, in partnership with Japan-based BML. In a statement at the opening, Covance's corporate senior vice president Deborah Tanner acknowledged that favorable regulatory conditions had an impact on the company's location decision. "Recent efforts by Japanese regulators to reduce drug development timelines have created significant interest among pharmaceutical companies to conduct clinical trials in the country," she said at the time.

Favorable tax regimes also continue to attract new investment. "Singapore offers strong tax incentives, and this is one reason that we continue to see new investment here," Highfield says. Among the firms investing in facility expansions or new construction in Singapore are Roche and Pfizer.

Conversely, efforts to remove incentives and impose new taxes can cause companies to close up shop or put the brakes on planned expansions.

This appears to be the situation in Puerto Rico, where an overnight change in the tax law last fall left multinational pharmaceutical companies scrambling to determine the longer-term sustainability of their island operations.

Law 154, which imposes a 4-percent excise tax on goods and services sold by companies on the island to overseas affiliates, took effect in January. And the industry is not happy.

"The administration saw this as a quick way to raise revenue," says Roberto J. Monserrate Maldonado, director of legal and legislative affairs for the Puerto Rico Manufacturers Association. "Puerto Rico needs to fill a $1.2-billion gap because it lowered taxes for local companies and individuals. The government is looking to multinational companies to fill this gap."

Maldonado notes that the island's industry has shed 70,000 jobs since 1997, when federal authorities repealed Section 936 of the federal tax code, which provided tax incentives for firms setting up manufacturing facilities in Puerto Rico.

"This is not going to help regain these lost manufacturing jobs. We think it is very dangerous for the industry."

Adds Johnson & Johnson's Pedro Costa, the company's director of state government affairs, "We share the concern of many companies over the passage of Law 154 and the potential harm it may have on long-time employers like Johnson & Johnson as well as Puerto Rico's ability to compete for future investments."

While the complete impact of the new law remains unclear, industry insiders say that firms with Puerto Rico expansion plans are putting on the brakes. "Several projects headed for Puerto Rico are paralyzed," says Maldonado. "Abbott actually halted an expansion in the middle of construction."

Still, Maldonado believes that there is room for negotiation. "We are trying to re-open the dialogue between the government and the private sector. It's not that we are opposed to the government trying to raise revenue. It just needs to be done in a way that won't hurt Puerto Rico's competitive advantage to attract new investment."

In the meantime, industry concern seems to be translating into "For Sale" signs. "There are a lot of facilities on the market in Puerto Rico right now," Highfield says.

Boots On the Ground

Like firms in other industries, pharma companies are looking to take advantage of large new customer pools in emerging market countries where incomes and consumer spending are on the rise, such as Brazil and China.

But some companies are finding that to capitalize on these opportunities, they must have boots on the ground, in the form of a local production facility.

Highfield explains. "There have been government edicts in some emerging market nations, mandating that if you want to sell your drugs there, you have to produce them there."

In Indonesia, for instance, Ministry of Health Regulation 101/2008 imposes new restrictions on the importation of drugs, stipulating that only locally manufactured drugs can be registered and distributed in the country. The rule also limits foreign ownership in manufacturing facilities, meaning that multinationals must partner with local companies to take advantage of Indonesia's vast market — estimated to reach $3.9 billion this year, with 15- to 18-percent annual growth rates for the next five years, according to BioSpectrum Asia, a life sciences trade publication.

Other fast-growing emerging markets, including Brazil and Russia, have similar local-presence laws in place.

Highland points out that such regulations will have significant impact on pharma firms going forward as those firms look to expand into promising new markets in the developing world.

"Clearly, these kinds of changes affect not just location decisions but overall strategy as well," he says.

Over a period of five years, Pfizer has pledged to provide $22.5 million to Washington University in St. Louis and give its scientists access to research data on a large array of Pfizer pharmaceuticals. One of the physical manifestations of the new partnership is an 8,500-sq.-ft. (790-sq.-m.) tenant build-out carried out by Clayco at the CORTEX One Building (pictured) on Forest Park Avenue.
Photo courtesy of Clayco

Story in Pictures

Deirdre Connelly, president of GlaxoSmithKline North America Pharmaceuticals and a Philadelphia resident, said the company’s new $81-million headquarters at Navy Yard, which will be leased from Liberty Property Trust, will continue the company’s proud Philadelphia history, which dates back to 1830.
Photo courtesy of GlaxoSmithKline
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