CORPORATE OFFICE PERSPECTIVES | FEBRUARY 1, 2015

Last month I gave a San Francisco Bay Area commercial real estate market forecast to a room filled with lawyers, CPAs, and real estate professionals, covering industrial, apartments, retail and office in Silicon Valley, San Francisco, and the I-880, I-680, and I-580 corridors. What made this fun for me was the opportunity to interview top brokers not just from Colliers International, but other major firms as well to get their takes on where we are, where we are headed, and why. In summary, for Industrial the market overall is hot, with vacancies below 7% in many sub-regions. Bigger is better, with new warehouses being built in the 200,000 to 1 million square foot range, and 36′ to 40′ clear height is the new e-commerce standard of choice. Apartment house investments are still sizzling, with the top three apartment rental increases in the country happening in Oakland (11.5%), San Jose (10.5%) and San Francisco (9.8%). Cap rates in the 4 to 5% range are not uncommon, with plenty of financing at low-fixed rates. Retail is changing, with premium retail vacancy rates below 5%. Middle-sized retailers of 25,000 to 35,000 sf are downsizing to 10,000 sf. Walmart and Target are starting to take space in shopping malls, and the Internet, which only accounts for 6.5% of all retail sales, will continue to have an ever-increasing impact on brick and mortar stores that must adapt or perish. Our retail gurus throughout the Bay Area cite example after example of extremely strong leasing of just about all new quality retail centers. Office – Santa Clara, the Peninsula and San Francisco are sizzling hot, with 80% of all new office projects under construction in San Francisco already preleased. Rental rates of $62 to 68/rsf today are expected to increase 10% or more by the end of the year. The San Francisco Prop. M office growth moratorium will limit new construction to 950,000 square feet per year and put further upward pressure on rents, and at some point, force non-tech firms to consider relocating a portion or all of their operations to the East Bay, Texas, or offshore. Oakland does not have large blocks of Class A office space available to accommodate Trans-Bay relocations, but along the I-680 and I-580 corridors, there are a number of 300,000 to 950,000 square foot vacant office opportunities awaiting with open arms. Until this occurs, while San Francisco might be a speeding Ferrari, the East Bay with a 16% overall office vacancy rate is like a Prius with two flat tires …. still moving, but slowly. For all market reports and articles used in the presentation, please go to officetimes.com.

When I read January 23, 2015 headlines: “Bay Area adds 11,000 jobs in December and 113,500 during 2014 in record-setting employment surge,” I thought, “Oh no, I messed up on my prediction,” but nope, I was right. The first paragraph raved about all the substantial job growth, 11,000 new jobs just in December, but the sixth paragraph stated, “The East Bay, though, lost 1,300 jobs in December”. (Contra Costa Times, January 23, 2015)

East Bay corporate downsizing continues. We are still awaiting the fallout from Safeway Stores HQ downsizing in Pleasanton and Wells Fargo has been rumored to be shedding 250,000 square feet of Walnut Creek/Concord office space. On the good news side, General Electric has a software group in San Ramon that has grown from 100,000 sf to 400,000 sf, and Workday in Pleasanton had an explosive growth. (Contra Costa Times, December 5, 2014)

Credit for the following information goes to Eric Von Berg of Newmark Realty Capital, Inc., “The 7.5 million people in the Greater Bay Area represent 19.6% of the State’s population and 2.4% of the Nation’s.” The Bay Area’s GDP of 616 billion ranks 21st in the world if we were our own country. “The Bay Area per capita productivity is 2.5 times the U.S. average. The Bay Area has more Fortune 500 companies (30 with combined sales of $1.14 trillion) than any U.S. region except New York. Of the 134 high-tech start-ups worldwide that gained a $1 billion valuation in the last 10 years, 52 were from the Bay Area. “The Bay Area has more graduate programs ranked in the top 10 nationwide than the consistently second-ranked metro area – Boston. There are 97 colleges, universities and academies in the Bay Area. The Bay Area has more than 2,027 biotech companies and 22% of VC funding. The Bay Area dominates social networking with eight of the top eight sites by market share: Facebook, YouTube, Twitter, Google, Yahoo, Pinterest, Lincoln, and Instagram. To read the full report, 2014 Bay Area Economic Engine, click here.

Office buildings in my lifetime will be net zero energy, as may be retail, industrial and residential buildings. Roofing systems will be integrated solar; exterior surfaces will be solar generators; there is exterior glass now that captures sunlight; there will be powerful tiny energy-collecting windmills on the top and sides of buildings; office lighting will only be on when you are there to use it; LEDs will become increasingly more efficient; office or workstation sensors will communicate with building HVAC systems; and there will be much more transparency. Buildings now have to register energy usage and disclose to buyers, investors will give a premium to low-energy commercial real estate investments, and the parking lots and garages, instead of just a few, will have rows of electric charging stations.

According to the latest Colliers San Francisco market report, 2.8 million square feet of office space was absorbed, there were 8.1 million square feet of office transactions, and rents rose 16.2% compared with the same time last year. The vacancy rate is 7.5%, kept up due to millions of square feet of new office construction. There have been 18 straight quarters of positive absorption and declining vacancy. (San Francisco Office Market Report Q4 2014)

Silicon Valley is in a groove. Nearly 3.9 million square feet of office space absorption will be recorded in 2015 from projects currently under construction. Total gross absorption for R & D, Industrial, warehouse and office for 2015 is predicted to hit 25 million square feet. Similar to San Francisco, more than 80% of all new office construction scheduled for completion this year, is already leased. As Jeff Fredericks, managing director of the San Jose Colliers office stated, “Office is on fire in Silicon Valley.” At the end of 2010 the office vacancy rate was almost 25% — today it is 11%.

For a number of years, telecommuting has been an increasingly important part of the corporate work culture. Starting maybe 20 or 25 years ago, every year the percentage of workforce telecommuting, either part-time or full-time, seemed to go up. Being able to work from home for a number of industries and types of work, is here to stay, and there are millions of workers who might have a touch-down space in an office, but for the most part are mobile warriors, working from clients’ facilities, home, either branch offices or from Starbucks. I haven’t seen any formal data on this, but I believe this trend has peaked. Google, Facebook, Salesforce, LinkedIn, Apple and on and on and on, are buying and/or building huge office campuses and Class A high-rises to take advantage of the creative and immensely powerful synergistic brainpower you get when you have employees collaborating, inspiring and brainstorming in-person, in small, medium and larger groups, but in person. Face time, Skype and video conferencing are all well and good, but your top corporations today leverage the power of their employees, and it is much harder to do this at home in your pajamas.

Deals and Rumors: This is only a very partial slice of the deals actually done during the past 60 days … In San Francisco, Kirkland and Ellis expanded to 125,000 sf; Dot & Bo took 21,000 sf at 200 Kansas St; Invuity leased 38,000 sf at 444 De Haro St; Wish inked 54,000 sf at One Sansome St; Yelp expanded to 102,000 sf at 55 Hawthorne St; and Next 15 grabbed 50,000 sf at 100 Montgomery St. Over in Oakland, I helped ITT lease 17,000 sf at 1200 Clay, and EVB leased 10,000 sf at 1738 Telegraph Ave. In Walnut Creek, Newmeyer & Dillion signed for 17,000 sf at 1333 N. California Blvd, and Allergy & Asthma Medical Group leased 13,000 sf at 370 N. Wiget Lane.

In Silicon Valley, the Peninsula and San Francisco expanding companies are outgrowing office space and having to relocate, some as often as every few years. Making this transition easier is moving into tricked-out trendy designed space, with new furniture.

Getting consensus from employees as to the new location is very important. What matters most to them — retail amenities, public transit, nearby gyms and restaurants and a safe environment? Changing from private offices to cubicles or high-walled cubicles to lower, open collaborative space can be unsettling, and made easier by hosted luncheons in the new space prior to move day, touring employees and inviting them to sit in the new, under construction digs. New office design may require a whole new style of working, but the increase in synergy and energy level can make it all worthwhile. (Contra Costa Times December 13, 2014)

According to the San Francisco Planning Department’s latest Quarter 3 Pipeline Report, there are 50,000 housing units on the way. More than half of these are in three big projects, Hunters Point/Candlestick, Park Merced, and Treasure Island. These projects may not be completed for years so no immediate fears of gridlock, but if one estimates three people per housing unit, this suggests an increase in San Francisco population of 150,000! (Curbed SF December, 2014)

San Francisco office market exploding – Colliers International reports 5,161,899 square feet of office space currently under construction, with 12 million feet proposed or in planning. In 2014, it was 2.8 million square feet of net growth. In the third and fourth quarters of 2014, there were 30 office sale transactions totaling almost $4 billion dollars. (The Registry December 18, 2014)

Five reasons there is a feeding frenzy for decent commercial real estate properties of just about all types. Interest rates for new financing are still at historically low levels, and investors can get 5 or 10 year fixed-rate mortgages at sub-4% rates. The economy is on the upswing, so there is less risk of vacancy and tenant default. Alternative investments such as bonds or fixed-rate financial vehicles are at very low returns, making even the crazy commercial real estate cap rates look comparatively attractive. In many markets, new construction is still too costly to be viable, pushing vacancy rates downward and rental rates upward. The United States is a global safe haven for investments.

Nationally in 2013 the office sector had the best year since the Great Recession, but to put this in proper context, the absolute leasing figures are only running half of what the absorption was prior to the Great Recession. (National Real Estate Investor December, 2014)

San Francisco has “micro-units,” which are 350 to 450 square foot apartments or condos, with a fold-down bed, built-in furniture and selling for $500,000 or renting for $2,500 a month. A comparative bargain, compared to the $5,000 to 6,000 per month two-bedroom rental market. Yes, I know there are many places in the country where this kind of money can buy you a very nice five-bedroom home …

California’s Title 24 which went into effect last year requires photo sensors, occupancy sensors and multi-level lighting controls, both indoors and out, when 10% or more of the office space lighting is changed. According to local contractors, this can add $6 to $12 per square foot to the cost of tenant improvements.

Downtown Oakland Class A office brokers report that 80% of their office tours these days are San Francisco companies, so the tide is finally rolling into the East!

Jordan is finishing up his senior year of high school, awaiting college application results, and just achieved his Boy Scout Eagle rank, all accomplishments of which we are all very proud! Only 4% of all Boy Scouts achieve this high rank. Jordan is also looking forward to his last season with the Monte Vista lacrosse team. His younger sister, 12-year-old Madison, is on the Scorpion Stinger girls lacrosse team for her first year, so you know what dad will be doing on his weekends. To see their recent photos, click here.

As I approach my 40th year leasing and selling commercial real estate, with more and more childhood friends retiring from their government and corporate jobs, yet with very few exceptions almost none of my more “senior” competitors and associates have retired but are still entrenched in touring properties, drafting proposals and negotiating for their clients’ best interests, I have finally accepted the basic fact, “Life is not fair”, although I don’t accept what has happened around the world, with senseless slaughtering of innocents in the name of religion, not just in France and Australia, but so many other countries as well. The question of “Will there be more attacks?” has been replaced by, “Yes, but when and where?” Closer to home, will the drought continue? As a skier waiting for good snow, I see that Costco now features summer barbeque and beach accessories and I haven’t even gone skiing once yet! Life is not fair, so make the most of today and tomorrow, regardless and somehow everything will work out fine! As the author of “The Best Exotic Marigold Hotel”, Deborah Moggach wrote, “Everything will be alright in the end so if it is not alright, it is not the end.” Please call me with any and all of your commercial real estate questions and requirements.

Sincerely,
Jeffrey Weil, MCR.h,SIOR,CCIM
Executive Vice President
Colliers International

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