Earnings Call Transcript - ARE Q2 2021

Operator, Operator

Good day, and welcome to the Alexandria Real Estate Equities Second Quarter 2021 Conference Call. All participants will be in a listen-only mode. Please note, this event is being recorded. I would now like to turn the conference over to Paula Schwartz with Investor Relations. Please go ahead.

Paula Schwartz, Investor Relations

Thank you, and good afternoon, everyone. This conference call contains forward-looking statements within the meaning of the federal securities laws. The Company’s actual results may differ materially from those projected in the forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in the Company’s periodic reports filed with the Securities and Exchange Commission. And now, I would like to turn the call over to Joel Marcus, Executive Chairman and Founder. Please go ahead, Joel.

Joel Marcus, Executive Chairman and Founder

Thank you, Paula, and welcome, everybody to our second quarter call. With me here today are Jenna Foger, Peter Moglia, Steve Richardson and Dean Shigenaga. We want to welcome all to this second quarter call and also as I always try to do, recognize and thank the entire Alexandria family team for one of the best quarters in the entire history of the company with an operational tempo really like none other, while working virtually for many of us for most of the past, now we into our second year of COVID. Michael Jordan once said some people want it to happen, some people wish it to happen, others make it happen. Alexandria makes it happen. We are deeply mission-driven and thankful for all that we do and urge you to read about many of our important programs and activities in the corporate social responsibility area in our press release. For a moment, key highlights of the second quarter include historic high demand for Alexandria's lab space and our critical lab operations, which align with that. Alexandria is at the vanguard of meeting the historic and unprecedented demand from many of our more than 750 tenants' growth needs now, which is a critical path for future growth. Very importantly, fundamental drivers of demand are the strongest we've ever seen. Rental rate growth continues unabated, and there is no excess supply on the horizon at this time. We're very proud that we've got almost 7% quarter-to-quarter per share FFO growth, more than 40% rental rate growth, almost 18% NOI growth, almost 8% same store NOI growth, and a $1.3 billion-plus annual NOI run rate, not to mention about $545 million in incremental revenue in our development and redevelopment pipeline. Alexandria truly has a demonstrable pricing power advantage in each of our cluster markets. When life science tenants choose, they almost always prefer Alexandria's lab space and operational excellence based on our critical lab operations. Nature, a biotechnology magazine, back in April wrote the following; 2020 was a year that smashed many records, biotech's savior role in the pandemic attracting a stampede of private and public investors alike. The pandemic apparently reinforced the requirement for long-term value-based investors of any kind to have exposure to life sciences. And life science demand has, in fact, reached an all-time high as the world has recognized the importance of next-generation therapies to solve current and future difficult healthcare challenges, and Jen will talk a bit more about it.

Jenna Foger, Senior Vice President

Thank you so much, Joel, and good afternoon, everyone. As Joel highlighted last quarter, we continue to be reaffirmed by the fundamental future's shares is a tremendous paradox of this pandemic moment for the life sciences industry. Despite the challenges of these past many months, COVID has illuminated the power of science and the industry's ability to transform the future of human health. Not only have so many of our tenants in the industry, as Joel mentioned, risen to the challenge of combating this global pandemic, but R&D and bio-innovation broadly have persisted with amazing productivity, resilience, and expediency throughout this time. We cannot stress enough how critical it is for us as a whole to preserve, prioritize, and continue to catalyze this groundbreaking innovation that has and will continue to save so many lives. Now turning to a COVID-specific update for a few moments. According to the World Health Organization, as of this morning on a global scale, over 194 million confirmed cases of COVID-19, including over 4.1 million deaths. A total of 3.7 billion vaccine doses have been administered worldwide, with nearly 10% of these doses in the US alone. Roughly 57.5% of the vaccine-eligible population in our country has been fully vaccinated with either Pfizer or Moderna’s two-shot mRNA-based vaccine or Johnson & Johnson’s single-shot vaccine. This is just over 49% of the total US population, and we hope this number of fully vaccinated individuals will continue to steadily rise. These numbers are astounding. Before we get into where we are now, I want to emphasize that despite the COVID fatigue we all continue to feel, even with some relief from the easing of restrictions over the past few months, albeit with the likely return of some new ones, none of where we are in the recovery process can be taken for granted. The biopharma industry, spearheaded by many of our tenants, was equipped with the know-how, resources, and technology to create safe and effective vaccines to combat a novel viral pathogen, which would have been unimaginable just a few decades ago. Our tenants, Pfizer, Moderna, and Johnson & Johnson, were able to develop, conduct robust clinical trials, manufacture, and distribute billions of vaccines at scale in less than 12 months. This is absolutely unprecedented. These vaccines achieved astounding safety and efficacy in the 90-plus percent range when the FDA had set the original bar at 50%, with remarkably low incidence of side effects reported from the millions of people who have now received it. That is truly astounding.

Steve Richardson, Chief Operating Officer

Thank you, Jenna. I'd like to take a step back at the start of my comments and provide some historical context for the accelerating demand, which translates into leasing at warp speed for Alexandria's mega campuses. At Alexandria's Annual Investor Day during December 2017, we presented a bold framework to nearly double the company's annual rental revenues from a little more than $800 million to $1.5 billion by the end of 2022. We are pleased to share that the annualized revenues for Q2 2021 are in fact in excess of $1.5 billion. So the Alexandria team has accomplished this lofty goal in an accelerated time frame, more than one year sooner than anticipated. The company has also grown from a mission-critical operating asset base and development pipeline of 29 million square feet at the end of 2017 to a total of 62 million square feet at the end of Q2 2021. This is truly exceptional growth, more than doubling the footprint of the company, concentrated in our core clusters with disciplined execution, enabling the continuation of high-quality cash flows. As we fielded questions during 2020 regarding whether the healthy leasing activity for Alexandria's mega-campus platform was perhaps a short-term blip driven by COVID-19, the second quarter of this year's leasing volume of more than 1.9 million square feet, the highest quarterly leasing volume in the history of the company, again provides evidence of the company's unique position as a trusted partner to the growing life science industry, providing a durable and sustainable competitive advantage in the market. I'll go ahead and review a few of the exceptional highlights, including the following: leasing outperformance. As we just stated, the 1.9 million square feet leased represents the highest quarterly leasing activity during the 27-year history of the company. Truly leasing at warp speed. I'll direct you to Page 2 of the supplemental material where it indicates that 3.4 million square feet are under construction, 80% leased, and the additional 3.6 million square feet anticipated to commence construction during 2021 and 2022 is 89% leased and negotiating. This robust leasing and growth pipeline provides exceptional clarity, and these projects in total will drive incremental revenues in excess of $545 million. We also have exceptional core results. Cash increased this quarter by 25.4%, and GAAP increases of 42.4%. Occupancy remained very solid at 94.3% in the operating portfolio, which would have been 98.1% if not for the 1.4 million square feet of vacancy in recently acquired properties, allowing for near-term incremental annual rental revenues in excess of $55 million. In terms of market health, demand, as we have outlined, continues to accelerate, and Alexandria's branded in highly desirable mega campuses, where supply continues to be restrained during 2021 across all of our markets, and we do not see any disruptive large-scale projects delivering in 2022 or 2023. We're closely evaluating Greater Boston's ground-up pipeline, which is 56% leased, and in the San Francisco area, we are monitoring leasing activity at two ground-up lab projects. As we have stated before, there have been no significant lab sublease spaces put in the market for several quarters now. In conclusion, the first half of 2021 continues the very strong outperformance by Alexandria, and our focused intent on operational excellence has positioned the company very well to enhance its industry-leading brand. With that, I'll hand it off to Peter.

Peter Moglia, Chief Investment Officer

Thanks, Steve. I'm going to update you all on our development pipeline and construction cost trends, comment on our recent asset sales and report on a couple of comps that reflect that the private market appetite for life science assets is still very healthy. As Steve and Joel both noted, we're experiencing historic demand and have responded by executing our differentiated life science strategy at an accelerated pace through expanding our collaborative campuses and asset base in each of our cluster markets. A significant sign of the health of the underlying life science industry is that we're expanding significantly in almost all of our markets. In many of our submarkets, the supply and demand imbalance has been exacerbated by the lack of near-term opportunities to expand, leading Alexandria to push the boundaries of those markets. Examples of this include successful forays into Watertown and Seaport in Greater Boston, new mega campuses in Sorrento Mesa, and expansion of the San Diego Science sector to the north and east, as well as a highly successful mega campus underway in San Carlos. This high demand, paired with our experienced development teams, resulted in another very productive quarter for Alexandria. In the second quarter, we delivered 755,565 square feet, spread over five assets located in South San Francisco, San Carlos, Long Island City, San Diego, and the Research Triangle. This figure is double what we delivered in the first quarter, and these deliveries will provide more than $31 million in annual rental revenue over the next year. In addition, this historic demand has led to improved quarter-over-quarter leasing and leases under negotiation numbers despite adding two new assets that have had little marketing time. Notable assets contributing to this outcome include 840 Winter Street in Waltham, Massachusetts, which is a testament to our ability to capture demand from companies needing facilities for next-gen manufacturing; 3160 Porter Drive in Palo Alto, a joint effort with Stanford to commercialize the University's most innovative science; and 5505 Morehouse in Sorrento Mesa, which is benefiting from Alexandria's placemaking expertise and strong demand drivers in San Diego. As illustrated on Page 2 of the press release, this historic demand and our corresponding strategic response have led to our current pipeline growing to 3.4 million square feet in 33 properties that are, as Steve mentioned, 80% leased or under negotiation. We expect to have another 3.6 million square feet in 19 properties commence construction this year and next, already 89% leased or under negotiation. These properties will cumulatively add approximately $545 million of annual rental revenue once fully delivered. It's necessary to remind everybody of that. Construction costs remain elevated, with some trades and commodities holding steady and others continuing to be at unprecedented levels. Lumber has been a positive story and could be a microcosm for what will happen with other commodities. A year ago, lumber was $500 per thousand board feet, which was about $100 above its historical norm. It climbed to $1,700 per thousand board feet in early May but has since dropped back down to $600 per thousand board feet and is still dropping. The reason for the drop was a large number of residential projects were put on hold due to the price of lumber. With this pullback in demand, the mills have been able to catch up, leading to stabilization in pricing. A correction due to a decrease in demand is essentially what will eventually normalize all construction commodities. Copper has shown signs of dropping, but it's still two times above historical norms. Alternatives, such as aluminum, are being considered to alleviate pricing pressures. If there's sufficient adoption, it could lead to stabilization in pricing. Despite the promising news with lumber and copper, rolled steel remains very volatile and is not showing any signs of stabilizing. Rolled steel is used for items such as metal decks, metal studs, and ductwork. This is particularly impactful for multi-level buildings with large HVAC needs, such as lab buildings. Therefore, we have to keep our cost escalation assumptions on the high end despite the noted drop in some commodities. The cause is both a commodity and labor issue at the shops that create the products from raw materials. COVID caused many to shut down, and when demand exploded, the shops had difficulty getting labor to return. The shops try to solve this by scheduling longer shifts, but the amount of rolled steel showing up was not enough to support those shops. Thus, prices remain very high, with metal studs up 75% since January. We want to assure you that we're keeping a close eye on commodities and have been developing strategies to counter these increases. Together with our prudent underwriting, we will continue to deliver our projects on time and on budget as we always have. I'll conclude by discussing our recent sales and providing a couple of comps that were announced recently. I discussed our record 4% cap rate at 213 East Grand last quarter, but I want to add that in addition to achieving that cap rate, we also achieved an unlevered IRR of 9.6% and a value-creation margin calculated by dividing our gain by gross book value of 56%. This quarter, as disclosed on Page 3 of the press release, we demonstrated our ability to create tremendous value for our shareholders by selling a 70% interest in 400 Dexter, located in the Lake Union submarket of Seattle, for a 4.2% cash cap rate, with a gross value equating to $1,255 per square foot. We achieved a 12% unlevered IRR on this sale and a value creation margin of 61%, reflecting the high-quality assets we've developed and continue to develop in the Seattle region and elsewhere. Outside of those Alexandria transactions, there are a couple of notable transactions in our submarkets that illustrate the high value private investors are placing on life science assets today. In Sorrento Mesa, an asset known as The Canyons, which contains a little over a third of lab and manufacturing space with the balance being office, sold at a 4.48% cap rate and a value of $575 per square foot. The cash flow is from a credit tenant and there is no near-term upside, so the cap rate truly reflects the yield a private investor was willing to pay in a submarket that a couple of years ago would have commanded a cap rate with a six-handle. Similarly, the other comp we're reporting comes from Rockville, Maryland, which was considered a seven-cap rate submarket by some analysts not long ago. 9615 Medical Center Drive, located in the Shady Grove submarket adjacent to a number of Alexandria properties, was sold to a US insurance company for a 5.18% cap rate and a valuation of $610 per square foot. This asset is a leasehold interest subject to a long-term ground lease that happens to be owned by Alexandria. Thank you. And with that, I'll pass it over to Dean.

Dean Shigenaga, Chief Financial Officer

Thanks, Peter. Good afternoon, everyone. We reported exceptional operating and financial results for the first half of '21 and provided a very strong outlook for the remainder of the year. Revenue and net operating income for the second quarter were up 16.6% and 16.8% over the second quarter of 2020, respectively. NOI for the second quarter was up 6.9% over the first quarter of '21. Now, venture investment gains included in FFO per share were $25.5 million for the second quarter and consistent with the first quarter of '21. Looking back over the last two quarters, we raised our outlook for FFO per share by $0.03 when we reported first-quarter results. During the second quarter, we raised our outlook for FFO per share again by another $0.02. This increase was announced in connection with our Form 8-K filing date at June 14th when we were substantially through the second quarter and had solid visibility into the strength of core results for the quarter. Same property NOI growth for the first half of '21 continues to benefit from our high-quality tenant roster, with 53% of our annual rental revenue from investment-grade rated or large-cap publicly traded companies. Same property NOI growth for the first half of '21 was very strong at 4.4% and 7.4% on a cash basis. High rental rate growth on lease renewals and re-leasing was the key driver for the improvement in our outlook for 2021, same property net operating growth to 2% to 4% and 4.7% to 6.7%, an increase of 30 basis points and 40 basis points, respectively. While our primary focus for acquisitions in 2021 has been driven by strong demand from our tenant relationships for both current and future development and redevelopment projects, some acquisitions have also included operating properties with opportunities to drive growth and cash flows through lease-ups. These operating properties have contributed to NOI growth in the first half of '21, and it's important to highlight that the lease-up of 1.4 million rental square feet of vacancy at these properties will provide further growth in annual rental revenue exceeding $55 million. The occupancy reported for June 30th was 94.3% and 98.1% on a pro forma basis, excluding vacancy from recently acquired properties. It is important to highlight that if we set aside recently acquired properties, our occupancy is on track to improve by 100 basis points in 2021. We believe it is crucial to highlight the strategic benefits of having a team with tremendous experience and expertise in designing, building, and operating sophisticated laboratory office buildings, along with a team with decades of trusted partnerships with our highly innovative tenants. As mentioned earlier, we have one of the highest credit tenant rosters in the REIT industry, along with one of the highest adjusted EBITDA margins at 69%. We reported our lowest AR balance since 2012 at $6.7 million, which is remarkable considering our total market capitalization was over $26 billion as of June 30th. We continue to report high collections at 99.4% for July. We reported record leasing velocity at over 3.6 million rentable square feet executed in the first half of this year. This run rate significantly exceeds the strong leasing volume for 2020 and is on track for exceptional rental rate growth in the range of 31% to 34% and 18% to 21% on lease renewals and re-leasing space, that last figure is on a cash basis, by the way. As a trusted partner with access to over 750 tenants in our portfolio, we are well-positioned to capture tremendous demand from our tenant roster and life science industry relationships. We have an exciting pipeline of projects under construction, aggregating 3.4 million rentable square feet, 80% leased and negotiating. Near-term project starts, 89% leased or under negotiation, aggregate to 3.7 million square feet. This totals approximately 6.9 million square feet, 90% of which relate to space requirements from our existing relationships. These projects will generate significant annual rental revenue exceeding $545 million or a 34% increase above the second quarter rental revenues annualized of $1.6 billion. Additionally, we expect to start more projects between now and December of 2022. Our venture investments portfolio continues to showcase the exceptional talent of our science and technology team for underwriting high-quality innovative entities. As of June 30th, unrealized gains were $962 million on an adjusted cost basis of $990 million. Realized gains on our venture investments for the second quarter were $60.2 million, including $34.8 million of realized gains excluded from FFO per share. For the first half of '21, we realized gains aggregating about $57.7 million related to significant gains in three investments that were excluded from FFO per share as adjusted. We are pleased that the venture investment program is generating capital exceeding our initial forecast for 2021, and we hope this will be in the range of about $100 million plus for the entire year. Continuing on to our strong and flexible balance sheet to support our strategic growth initiatives, we are very pleased to have one of the best balance sheets in the REIT industry, providing access to attractive long-term cost of capital. We remain on track for net debt to adjusted EBITDA of 5.2 times by year-end. Our fixed charge coverage ratio has increased to greater than 5 times for the fourth quarter. We continue to maintain significant liquidity of $4.5 billion as of June 30th. We are in a solid position with debt maturities, with our next maturity representing only $184 million coming due in 2024. While it's challenging to predict when owners of real estate will decide to sell, two to three transactions have driven most of the acquisition amounts and accounted for about half of our target for 2021. For the remainder of the year, our goal is to remain selective with acquisitions. Our team is advancing a number of important decisions, primarily focused on partial interest sales in high-value, low-cap rate properties for reinvesting into our strategic value creation development and redevelopment projects. To date in 2021, we have completed $580 million in cap rates in the 4% to 4.2% range and have about $1.4 billion in process at various stages, expecting to move along other dispositions that will push us well above the top end of our range for dispositions, currently at $2.2 billion. We are targeting about $1 billion in dispositions to close in the third quarter and the remainder in the fourth quarter. Each of these key pending transactions will continue to highlight the tremendous value we have and continue to create for our stakeholders. As a reminder, please refer to Page 6 of our supplemental package for a detailed and updated guidance for 2021. This guidance is an update to our guidance for the year disclosed on our Form 8-K dated June 14th. We narrowed the range of guidance from $0.10 to $0.08 for both EPS and FFO per share. EPS was updated to a range from $3.46 to $3.54 and FFO per share as adjusted was updated to a range from $7.71 to $7.79, with no change in the midpoint of FFO per share diluted as adjusted at $7.75. Since our initial FFO per share guidance for 2021, we have increased the midpoint of our guidance by $0.05 for growth in 2021, representing an increase of 6.1% over 2020. Before I turn it back over to Joel Marcus, I wanted to highlight that we recently published our annual ESG report, highlighting continued leadership in sustainability, social and governance matters. I also wanted to express appreciation for continued recognition by an independent panel of judges for a sixth NAREIT Gold Award for Communication and Reporting Excellence to the investment community. Congratulations to our team for outstanding execution, and I'll turn it back to Joel.

Joel Marcus, Executive Chairman and Founder

Thanks very much, Dean. Operator, we can go to questions, please.

Operator, Operator

We will now begin the question-and-answer session. Our first question will come from Manny Korchman with Citi.

Michael Bilerman, Analyst

So, Dean, in your last comments, you talked about going forward being more selective on acquisitions. I was wondering if you can, or maybe Peter, sort of talk about what's going to change in your approach or your underwriting, or the yields you're targeting relative to the ferocious appetite that you've had in putting capital out; how will deals going forward be scrutinized versus the deals that you've done?

Joel Marcus, Executive Chairman and Founder

It may be better to revise the term selective and think of it as being a bit more patient. If you examine the quality of deals we've undertaken, our underwriting standards and focus remain consistent. This has not changed for quite some time. The two significant deals we completed this year were aimed at creating a new submarket in Boston and extending the Alexandria Center for Life Science at Kendall Square, both in response to historically high demand. However, we are conscious of the overall capital markets, so we are proceeding at a slightly slower pace. Nevertheless, I wouldn't describe this as selectivity or an alteration in our underwriting processes or strategies; everything is fundamentally unchanged.

Michael Bilerman, Analyst

And from the capital markets, you've shown a lot of discipline in prefunding a lot of these deals through forward, through debt, or through straight equity offerings. Is it more of a concern about where the markets are going, Joel, in your mind about funding future deals?

Joel Marcus, Executive Chairman and Founder

I think we need to be aware that we might be at a historic high with GDP right now and possibly peaking. It’s challenging to predict the direction of the market, so we will proceed carefully with our approach.

Michael Bilerman, Analyst

I think judicious definitely sounds like more of the word rather than selective in the comments. And then secondly, just on supply, Joel, in your opening comments, you essentially said that it's not a concern of yours. Now you're obviously, as an entity, building a ton, others are building a lot. Is it just the level of preleasing and tenant demand that causes you not to worry about the levels of development going on in life sciences, and just the overall excitement that there is among corporate landlords to do it?

Joel Marcus, Executive Chairman and Founder

I'll ask Steve to share his thoughts, but I would say we're always concerned about everything. As fans of Jim Collins, we maintain a mindset of productive paranoia. Each day, we start with the assumption that we can't take anything for granted and must validate everything. This isn't about a lack of concern. If you examine each key market, the supply forecast extends several years into the future rather than focusing on 2021, 2022, or even 2023. You begin to notice larger fluctuations, like Kilroy's ability to manage large-scale projects in the Oyster Point area of South San Francisco, but those developments are still years away. Additionally, they face challenges due to their less favorable location compared to prime gateway areas. Steve, would you like to address the supply issue?

Steve Richardson, Chief Operating Officer

We have been in these markets for more than two decades. We track this on a building-by-building, parcel-by-parcel basis. So we have absolute granular information and insight into these projects. When you look at Greater Boston in that pipeline, projects that have gone vertical that are under construction, more than half of that is already leased, extending into 2022 and 2023. So, you really don't see very significant pieces being added to the overall inventory based on that. We monitor on a very granular basis, and that’s what we see over the next year or two or even two and a half years.

Operator, Operator

Our next question will come from Sheila McGrath with Evercore ISI.

Sheila McGrath, Analyst

Acquisition cap rates have compressed for life science assets as we can see at 400 Dexter. How should we think about the development yields for your current pipeline? Should we expect some of the newer projects to have a bit of compression in the development yields versus historic yields?

Joel Marcus, Executive Chairman and Founder

So, Peter…

Peter Moglia, Chief Investment Officer

I think it's fair to say that there's been a tremendous amount of growth in rents. This will help keep the returns buoyant, but with that growth in the cost of land and some cost increases mentioned earlier. Our goal for development is a minimum spread of 150 basis points over exit cap rates. We often exceed that well over 200 basis points in many cases. The cost of capital is advantageous; thus, you can develop something to a six and it can be very accretive if you can sell it for a four.

Sheila McGrath, Analyst

I was wondering if you could provide a little more detail on the Sorrento Mesa acquisition of existing buildings. Will you redevelop those buildings and add density, or knock some down? What are the plans there?

Peter Moglia, Chief Investment Officer

We have a number of scenarios that Dean and the team have explored. The advantage of that acquisition is the ability to combine it with an existing property to create a 2 million square foot mega campus. It will certainly contain new buildings. Whether they're all new and some will be redeveloped remains to be determined. We're comfortable with our basis there; we have options with the existing buildings, but our basis is good enough that if we take a couple down, we can build larger ones at good yields.

Sheila McGrath, Analyst

Okay. And last question. Leasing spreads were almost at a record quarter. Was that driven by any one particular transaction or market? Where do you think in-place rents for your portfolio compare to the market right now?

Joel Marcus, Executive Chairman and Founder

It's quite broad and not reliant on any one transaction. However, Steve or Peter, you can provide some insight on that.

Steve Richardson, Chief Operating Officer

Yes. The mark-to-market has actually increased over the past several quarters. We're roughly 23.5% on a mark-to-market basis across the entire portfolio. Clearly, this indicates the continued healthy demand and rent growth.

Peter Moglia, Chief Investment Officer

We were in the mid-teens not that long ago. That's a significant increase.

Operator, Operator

Our next question will come from Anthony Paolone with JP Morgan. Please go ahead.

Anthony Paolone, Analyst

Joel, you mentioned some of the record capital formation in the form of venture capital IPOs and the NIH as well. I'm wondering what you think happens to space demand if there's any sort of pullback in that capital formation this time.

Joel Marcus, Executive Chairman and Founder

Yes. That's a really good question. This is historically a biotech bull market going into its seventh year, which is historic. Many venture firms have raised record amounts of money, and those funds usually take multiple years to invest. That will provide runway to private companies if a black swan event or something unexpected occurs that drastically impacts the market. We have a historically high credit profile in our asset base, which is good. Companies most at risk would be newly public companies that now have to adjust their burn rate to survive without market access. We saw that in '08 and '09, with companies that needed a number of years of runway. We don’t foresee interruption in the flow of capital for the next few quarters; however, unpredictability remains, especially with China’s geopolitical intentions.

Anthony Paolone, Analyst

Okay. Got it. Thank you. Are you being asked to go into new markets or submarkets to satisfy some of the demands of your tenants? What are your updated thoughts on that?

Joel Marcus, Executive Chairman and Founder

This industry has shown historically that life science clusters take a generation to grow. Each cluster generally builds over 25 years or more. We see, for example, New York is now in its 12th year. Companies looking to expand tend to prefer to remain in existing markets. I do not see any large move toward new markets or other locations without a compelling argument to justify it.

Operator, Operator

Our next question will come from Jamie Feldman with Bank of America. Please go ahead.

Jamie Feldman, Analyst

Thanks. Do you have any thoughts about expanding into international markets considering your platform has proven itself? Is that something you're exploring?

Joel Marcus, Executive Chairman and Founder

Looking at this quarter's results, the question arises, why would you ever want or need to? We exited India after the Indian Supreme Court invalidated the Gleevec patent, and novel research isn’t thriving there. We have one remaining project in China, which is partially leased, but we compete against government properties that offer free rent for three years which makes it difficult. Europe is fine, but doesn't show signs of booming R&D. We are very satisfied with our current markets and operational views.

Jamie Feldman, Analyst

Okay. That's helpful. Can you provide an update on when you expect to start the new project in New York? It looks like Long Island City is running at about 100% leased in the supplemental. What are your thoughts about further opportunities in that area?

Joel Marcus, Executive Chairman and Founder

I’ll have Peter comment on Long Island City. We’re not at 100% leased there; it's a slower lease-up, partly due to what occurred with Amazon creating a chill effect in that submarket overall. We're working with the city currently as we go through a process. Stay tuned on that front. New York’s demand is largely organic companies that are starting and spinning out—very different from the situation in Boston, which is experiencing record high demand.

Peter Moglia, Chief Investment Officer

Yes. Long Island is currently at 41% leased and under negotiation. That leased percentage went up 10%. We meet weekly about demand and the different companies we're talking to. There's quite a bit of slow decision-making currently, which may be a combination of the state of New York City and concerns over COVID's impact. It has been a slower growth process, but we believe we will stabilize soon.

Operator, Operator

Our next question will come from Rich Anderson with SMBC. Please go ahead.

Rich Anderson, Analyst

On the dispositions, you're looking at $2 billion this year, which is a significant increase. Are you experiencing any reverse inquiry where you receive offers too good to refuse, or is this strictly about what you would have sold eventually?

Joel Marcus, Executive Chairman and Founder

Peter, why don't you comment on that?

Peter Moglia, Chief Investment Officer

Yes, Rich. I'm confident that if I made a few calls and asked if anyone wanted to make an offer, there would be a lot of interest. We are selecting what to sell; we’ve maxed out value on some properties in the near to medium term and it’s a good time to monetize.

Rich Anderson, Analyst

Great. Peter, can you share what kind of inflation you're underwiting for development costs? What assumptions do you have for market rent growth?

Peter Moglia, Chief Investment Officer

We look at escalations in the 5% to 6% range right now, which is potentially double what a normal year would see. Our data shows us that we should be conserving in underwriting. We have a very accurate idea of long-term growth and are conservative—this is favorable for surprise upside. Overall, we're confident with our current pipeline and the way we utilize our underwriting process.

Operator, Operator

Our next question will come from Michael Carroll with RBC Capital Markets. Please go ahead.

Michael Carroll, Analyst

Joel, during your comments, you discussed the need for the U.S. to lead in next-gen drug manufacturing. Did I hear you correctly that the U.S. only produces 11% to 13% today? What is the current status of next-gen manufacturing?

Joel Marcus, Executive Chairman and Founder

Yes, that figure refers to semiconductors.

Michael Carroll, Analyst

Where is the next-gen manufacturing primarily occurring? Given the advancements in technology, can we expect this to be a greater driver in demand within the life science sector?

Joel Marcus, Executive Chairman and Founder

You are correct. This is still in early days; these productions tend to be integrated with the R&D side and will generally remain near existing locations. A good example is Moderna’s choice to rebuild their plant in Norwood, which links to their R&D work in Cambridge.

Michael Carroll, Analyst

This demand driver—are some clusters likely to benefit more than others?

Joel Marcus, Executive Chairman and Founder

The clusters that benefit more are the established ones like Boston, San Francisco, Seattle, San Diego, Maryland, and RTP. Secondary markets probably won't benefit as much because skilled labor is critical, and you just can’t find that everywhere.

Operator, Operator

Our next question will come from Tom Catherwood with BTIG. Please go ahead.

Tom Catherwood, Analyst

Peter, focusing on the dispositions, partial interest sales have been a substantial aspect of your capital sources over recent years. When evaluating assets for disposition, how do you choose between an outright sale and a partial interest sale? Is sufficient control possible over joint ventures to ensure holistic decisions across your clusters?

Joel Marcus, Executive Chairman and Founder

Dean, do you want to start this off?

Dean Shigenaga, Chief Financial Officer

The complexity of establishing good governance within joint ventures is significant. Our team aims to respect those relationships across markets to be long-term partners. We've worked with partners that acknowledge our expertise to make these ventures successful and respectful of both joint venture assets and wholly owned assets. We prioritize cooperative decision-making across the board.

Peter Moglia, Chief Investment Officer

Absolutely. We're selective in the deals we pursue for disposition to maximize shareholder value while maintaining oversight. Additionally, we're witnessing heightened inquiries for our portfolio assets—communicating effectively with our partners contributes to a successful joint venture.

Tom Catherwood, Analyst

Turning to North Carolina, following the acquisition of the Alexandria Center for Life Science in Durham, how has the market performed versus underwriting, and what do you anticipate going forward?

Joel Marcus, Executive Chairman and Founder

The market has been spectacular. Peter, do you want to provide more detail?

Peter Moglia, Chief Investment Officer

We're exceeding our rental assumptions, likely close to 10%. The absorption of vacancy has been faster than we expected. Joel foresaw this trend coming toward RT when we executed this deal, and overall, it has been a success.

Tom Catherwood, Analyst

In order to support expansion, will you be adding significant square footage and new development rights?

Peter Moglia, Chief Investment Officer

Yes. There is great demand within the campus for new developments, and we expect to create a robust environment with excellent amenities for tenants.

Joel Marcus, Executive Chairman and Founder

The Research Triangle has become a powerhouse cluster that larger companies are beginning to view favorably. The increasing quality of life, moderate costs, and major institutions attract skilled workers, which leads to growth in the area.

Tom Catherwood, Analyst

That's really helpful. Thanks, everyone.

Joel Marcus, Executive Chairman and Founder

Thank you, everyone. We're looking forward to the third-quarter earnings call. Take care, be safe, and God bless.

Operator, Operator

This concludes our question-and-answer session. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.