Dominant Player in Niche Faces Competition for Redevelopment

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As the housing sector turned sour last year, real estate investors placed even more faith in the commercial market. And that helped send real estate investment trusts to their seventh consecutive year in which they beat the broader stock market.


Now, many market analysts wonder if that sector has already hit its peak. If so, specialty REITs are among the best equipped to ride out any bubble. One of them is Pasadena’s Alexandria Real Estate Equities Inc., landlord to the biotech industry.


Alexandria, whose ticker symbol is ARE, in its quarterly conference call this month gave guidance for the year of $5.71 a share for funds from operations, which is a common REIT financial measure. That would be 3 cents above the Wall Street consensus, and up from 2006’s $5.16 a share.


Alexandria “screens as both a good growth and value story within the REIT space,” wrote Citigroup Global Markets analyst Jonathan Litt when he recently listed Alexandria as his top REIT pick for 2007, and one of two among the 69 REITs Citigroup covers that warranted a buy rating. “ARE’s development and redevelopment pipeline remains the driver of our bullish stance.”


Litt has a $122 target price for shares of the $3.3 billion market cap company. The company’s stock traded around $112 last week, up 36 percent from a year ago.


Alexandria specializes in acquiring, converting and managing office and industrial space in or near established biotech clusters around the country, such as Seattle, San Diego, San Francisco and Boston, where there is a chronic shortage of laboratory space. Executives did not return phone inquiries.


Alexandria also has been aggressively building its pipeline, buying land in strategically located areas to develop for tenants in pharmaceuticals, biotechnology, medical devices, life science, biodefense, and research. Current tenants range from New Jersey-based drug giant Merck & Co. Inc. to small Seattle biotech ZymoGenetics Corp.


Alexandria’s assets include 159 properties in the U.S. and Canada comprising approximately 11.2 million square feet, plus land for development of about 6 million square feet of space. The company lists only two Los Angeles County properties, totaling 61,000 square feet of rentable space.


Its ground-up pipeline includes the 2.6-million-square-foot Mission Bay development, adjacent to the University of California, San Francisco’s life sciences campus, and the East River Science Park, a 1-million-square-foot mixed-used development near New York State University and Bellevue Hospital.


In a move unusual for a REIT, Alexandria also has direct investment in biotech startups through a Seattle incubator, Accelerator Corp. One investment, the amount not disclosed, is in Allozyne Inc., a Caltech spinoff in Pasadena which also counts Amgen Inc.’s venture fund, Amgen Ventures, as a stakeholder.


Litt notes that any pull-back in spending on pharmaceutical research and development could dry up demand from Alexandria’s core life-sciences tenant base. And though Alexandria is considered the dominant player in its niche, the 12-year-old REIT has faced increasing competition for potential redevelopment sites from companies such as London-based Slough Estates International and San Diego’s BioMed Realty Trust Inc., the latter founded by a former Alexandria executive.


Alexandria and Slough have been in a bidding war for second-tier industrial and office sites in the San Francisco Bay Area, driving up prices to more than $200 a square foot in certain submarkets, according to the San Francisco Business Times. Slough recently outbid Alexandria for three South San Francisco properties in what would be considered Alexandria’s development path there.


The rivalry has Alexandria widely speculated to be a leading bidder, along with BioMed, if Slough as expected puts on the market its 25-property U.S. life sciences portfolio in San Diego and San Francisco.


While the majority of analysts covering the company have “buy” or “outperform” ratings on Alexandria’s stock, there are a few bears on the shares.


While Litt has his $122 target price, Sri Nagarajan at RBC Capital Markets Corp. thinks the company may be due for a correction and puts an $87 target price on shares.


Among several concerns, Nagarajan criticizes Alexandria for not providing more details about slippage in construction timetables on some of its projects. He also believes the company’s strategy of attempting to create new biotech mini-clusters adjacent to universities is risky these days because of consolidation in the industry.


In addition, he says Alexandria’s stake in Accelerator’s biotech start-ups muddies the type of risk that REIT investors are used to taking into account.


“There are many unknowns out there that investors should really demand more answers about,” Nagarajan said.

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