Brexit, Science and Property
There is clearly a lot for many of us to reflect on after the referendum result of 23 June 2016. The decision, whether you agree with it or not, for the UK to leave the EU has been taken and this has raised key questions for our clients and the sectors in which we are involved.
So what are the potential implications of Brexit for the commercial R&D real estate sector in the UK?
The only certainty, for the time being, is uncertainty
An undoubtedly correct and much quoted phrase is that ‘we are in a period of uncertainty’. This is the most problematic short term issue facing both the R&D community and the property market for commercial R&D space. But uncertainty must pertain to something – so why are we in this position of flux and what are its implications?
Science
Voting patterns for graduates were shown to be strongly in favour of remain; only three of 35 areas where more than half of residents had a degree voted to leave the EU. When this is cross referenced against the strong remain vote in areas such as Oxford (70.3%) and Cambridge (73.8%) which are perceived as strong locations for employment in the sector, we think this gives a fairly good idea of how the science industry was positioned on the issue. This tallies with sentiment we have picked up in our conversations over the last few months, and in the science press. But why such support for remain in the sector?
There a number of social reasons which we could explore, including that many scientists seek international careers and recognition and that the industry transcends more borders than many. This blog by Stian Westlake, Executive Director of Policy and Research at Nesta gives a view on these factors as does Richard Florida’s excellent book “Flight of the Creative Class”. But let’s put these more abstract issues to one side and tackle the more pragmatic issue of research funding.
A report by the Royal Society leading up to the referendum highlighted that overall funding for UK University research increased from £6.8bn in 2009/10 to £7.04bn in 2013/14. Over this period funding from the Government Science Budget (which comprises more than half of these totals) fell by around 6% but this was more than offset by the rise in EU Funding which rose by 68%. One wonders how we could bridge this gap if the UK government have less to spend in a Brexit triggered period of weak economic performance without the EU picking up the slack.
To further contextualise the size of this issue to the British scientific community, the ONS reports that the UK contributed nearly €5.4 billion to EU research projects from 2007 to 2013, but received nearly €8.8 billion back in the same period. The University of Cambridge alone was on track to receive circa £110 million in funding between 2014 and 2020 from the Horizon 2020 pool of EU funding.
As with many things Brexit, we have had mixed messages about Horizon 2020, the main research funding programme from the EU. Whilst David Cameron stated post referendum that that existing Horizon 2020 contracts were safe he then said
‘Obviously the key decision will be post-leaving, about how we put in arrangements to safeguard the excellent research facilities and universities we have’
which highlights that some level of negotiation will be required around this point. This has left many wondering if Horizon 2020 contracts are just another unknown to be thrown into a negotiation pot, with more politicised issues such as immigration having a risk of taking precedence.
The effects of this, as well as a broader resentment in Europe of the Brexit vote, have reportedly been seen immediately, with anecdotal evidence of British scientists’ names being taken off pan-national collaborative funding requests for fear of the funding being less forthcoming. This has been echoed by minister for science Jo Johnson;
‘I would be concerned about any discrimination against UK participants and am in close touch with Commissioner Moedas on these issues.’
Unsurprisingly, this sentiment is also being felt by the investment markets, with 8 UK universities having their ratings downgraded by Moodys, in part due to the question over funding.
Clearly, until we have bottomed out the position on this, the UK’s strong position for academic research is not being helped. There is some good news however. The UK is involved in by far the highest number of projects involving Horizon 2020 funding of any EU country. I am not a great fan of the ‘too big to ignore’ arguments which we have been given by the leave campaign around trade negotiations, but this may be one area where the value-add of the UK really is something that the EU will want to hang on to in years to come.
So what about property?
As with all things property, it is useful to look at both demand and supply separately.
Demand for commercial R&D space is driven by several factors;
Let’s take each in turn.
1) Open innovation
Many R&D businesses today adopt an open innovation model where they seek to partner with other businesses and the research base to drive a more efficient product development cycle. As a result, the UK is seen as a strong location, offering high quality primary research, world class education and strong levels of entrepreneurship. Over the last 5 years, for example, the UK ecosystem for innovation has reportedly increased its status, with its ranking moving from 10th to 2nd behind Switzerland. For the reasons described above, there is some fear that this progress will be reversed and open innovation will be hampered by Brexit, with uncertainty about the funding for academic research and the effect this might have on the research base. However, we must remember that our academic institutions are globally recognised. There are more top universities in the UK than any other EU country (7 of the top 10 according to the Times Higher Education Survey), many with a very long term track record of excellence. The draw of these key locations is still likely to be strong, particularly those with strong levels of new company formation and development. Whilst it is too early to determine, therefore, what the likely impact of Brexit will be on Open Innovation in the UK we might expect some short term pain followed by a certain degree of ‘business as usual’ in this field for core science locations. One would hope that the best locations in the UK will see this as more of a blip than a body blow.
2) Access to talent pools
This is an area for some concern. Employees in the science industry have international backgrounds, and for global corporates, mobility is an issue. The effect of this could be two fold. Firstly, a less eclectic group of scientists in the UK will be off-putting to businesses and may make them think twice of taking a new lease here until the issue of immigration is quelled. This has a knock on effect, with graduates then seeking to diversify their skillset having to look abroad rather than in the UK. Until the issues around freedom of movement and international working are resolved post Brexit, we think this may have a negative impact on demand. And we are in good company on this – Bill Gates has made this point extensively.
3) Access to the EU
We cannot ignore the fact that many companies in this sector use the UK as a soft landing to do business in Europe and develop products that meet regulations set across the Union. Whilst it is difficult to foresee many companies wholly ‘jumping ship’ to another location, we could see some elements transferred to remaining EU countries and new demand from overseas is likely to be slowed by uncertainty around trade agreements for businesses/subsidiaries domiciled in the UK.
Supply
Of the two metrics, supply is the more worrying. There are issues over viability of commercial R&D space even in solid markets (as can be seen in section 8 of our recent MedCity report) and many projects rely on public sector funding at least in part. Uncertainty over the availability of EU funding and that which might replace them from the UK is of real concern. For private sector real estate funding this uncertainty is never good news for investment yields and whilst some prime stock may remain unaffected, we would expect some investors to see additional risk as a reason to push down prices. So, whilst large pre-lets to AAA rated pharma companies will still be built (if the demand is there), it is harder to justify construction of speculative space at present other than by some entity with a range of motives.
Alongside this, parts of the UK have recently experienced huge levels of build cost inflation. If the EU labour force tap is turned off, will labour cost inflation be an issue here? Appraisals for viability are already being hit hard by high build prices.
Both of these factors have knock on implications for the development of new stock. It may be even more important for the UK to think creatively about how we use our second hand facilities so as not to fall behind the curve on laboratory and other types of commercial R&D space.
To conclude
Uncertain times are just that, and the current levels of caution need to be seen not as whimsical sentiment but genuine concern about the outcomes of key political decisions. The referendum has shown that views differ vastly across the nation and that some are not necessarily aligned in the best interest of the innovation and openness which are required for good science, nor perhaps the certainty required for solid property investments.
However, despite this seeming negativity, at Creative Places, our view is that these factors and trends are in the main related to current levels of uncertainty triggered by the Brexit vote. The size and duration of the impact is going to be determined by how long it takes to implement or at least come to some decision on what the referendum means for both the science sector and property industry. Whilst there is caution around how long this period will last, we would like to think that the fundamentals underpinning R&D in the UK are unlikely to change materially; it is unlikely that the UK will entirely lose its excellent and hard won R&D status.