CORPORATE OFFICE PERSPECTIVES | APRIL 1, 2020

Preface:

 

The world in just the past few weeks feels like it has turned upside down. I usually write this newsletter two to four weeks in advance so most of the material while still relevant seems a bit distant. The near total shutdown of California last week and hopefully by now the rest of the United States will have a staggering economic impact. With so many small businesses closed a number may never reopen. With brick and mortar retail already on life support we may see even national chains disappear. Millions or tens of millions are out of work, many not on any big corporate ‘we’ll take care of you’ wage structure. The R word Recession appears to be a certainty, and for the first time in my life the D word may be possible is there is no stopping Covid-19 until we have a true vaccine in enough capacity for all of us, not just here in the United States, but all of us in the world and how long after that will it take for the airline, cruise ship, hotel, restaurant and other industries to recover? Two or three years? Working from home is a hardship for many, with kids out of school, home distractions, insufficient or inefficient working space or conditions. It works for some, and for the rest of us we must adapt. How many office users will still have the high productivity during these difficult times, and how many will not survive? Should companies commit to long-term leases, will vacancy skyrocket and rental rates crater? Will the high cost of tenant improvements come down as a slight silver lining to this economic abyss?

 

Office tenants and landlords, I am not a lawyer nor do I know anything about insurance or lease clauses, but check your leases and insurance policies for Business Interruption which might cover you for six months or more of income loss. We are also waiting to see if lenders will defer or extend loans to cover shortfalls during this period, and what the small business programs will be to help businesses with their employee wages and rent. What strains might this place on our banking system?  I so truly hope I am wrong and in a few months we are all back to our offices, restaurants and normality with the economy back humming  and all of this in our rear view mirror!! It is hard to imagine life without hugs and handshakes!

 

How will the Coronavirus affect our short and long-term use of office space? What impact will it have on our economy in 2020, 2021 and beyond? What industries will be hardest hit, and which will be the benefactors of this terrible disease? Major corporations are increasingly telling their employees to work remotely, not come into the office, and avoid not just international travel but domestic travel as well. Will any of these behavioral changes lead to a long-term reduced need for office space if some companies find this is not just a health safety issue but also dramatically lowers the cost and need for office space? If one worker or security guard in a major office building with 5,000 employees tests positive, does this mean all the employees and building staff need to be tested and/or quarantined?  Scary concepts for scary times…

Published in the National Real Estate Investor January/February 2020, Jim Costello, SVP of Real Capital predicts industrial will continue growing at double digit rates, many investors and lenders will continue to hate retail, and suggests caution when taking on debt.” There’s an ugliness of politics entering the investment process in the year ahead. We will be facing a contentious U.S. Presidential election and a lot of disinformation will be floating around…Beware of spin.”  Barbara Denham, Senior Economist with Moody’s predicts more of the same, slow but steady growth in terms of job growth, absorption and rents.” Office could continue to decelerate and retail as well.”  Michael Knott, head of research for Green Street Advisors, said “Continued steady, but unremarkable improvements in fundamentals as supply roughly matches demand.” Jim Berry with Deloitte commented on their 2020 survey of 750 owners and operators of commercial real estate  with 20 percent very optimistic, 55 percent somewhat optimistic, 13 percent neutral and 12 percent somewhat pessimistic.

Netflix’s new 13 story Los Angeles office building will have solar panels integrated into the building’s envelope to generate renewable energy. It will also feature 25,000 square feet of communal outdoor space, a landing pad and mailroom for drones, and electric car charging stations.

There has been 40 million square feet of new office construction during just the past 10 years in Silicon Valley. The unemployment rate is currently 2.2%, substantially below the national average. Apple, Google, Amazon and Facebook have accounted for a significant portion of the overall leasing. According to Lena Tutko, senior research director with Colliers, “We are not seeing a tech exodus any time soon … what we are seeing is tech companies not only staying in the Bay Area but they are expanding … we saw movement from San Francisco and Peninsula-based companies into the South Bay.”

Some of the WeWork business models of collaborative office space are set up for very high density ratios, even though it is seldom an issue of everyone showing up at work. However, if the workspaces are shared, and you don’t have a dedicated space, as the coronavirus becomes more prevalent will there be issues with not knowing if the previous occupant was healthy or not? Will the next occupant have to completely wipe down all the surfaces before setting up their laptop? What rules and protocol will be followed if someone comes in with a “bad cold”, sneezing and coughing … can they be asked to leave? Are the rest of the occupants in jeopardy?  Some of these set-ups have long rows of benches and can accommodate 10 or 20 workers per 1,000 square feet … will this exacerbate the situation of increased risk of infection?

With Twitter telling employees to work from home and Salesforce to tell its 50,000 employees to avoid non-essential travel, is it too farfetched to think that someday soon there will be a low-cost effective and immediate screening test for the Coronavirus that office employees and visitors will have to pass in order to enter office buildings? Perhaps something they can breathe in that immediately tests for positive or negative, like they currently do for alcohol testing? I remember in the first weeks after 9/11 when it sometimes took hours to get through the security checks and screening to get into amusement parks and now this only takes a few minutes …

Deals & Rumors:  Exelixis will be taking 220,000 sf at Harbor Bay Parkway in Alameda when the project is built and Penumbra leased 127,000 sf at 1310 Harbor Bay Parkway. In Emeryville Zyergen leased 300,000 sf at the Emeryville Center for Innovation. UCSF leased 128,000 sf at 2 North Point in San Francisco.

A recent survey by the co-working firm Mindspace found that 94% of interviewees stated they were either mostly or very happy at work. This was followed by the Netherlands (91%), Poland (83%) and Germany (81%). The study also found that men generally reported being happier at work than women, and that millennials were significantly happier than people in their forties and fifties. In addition, 75 percent of people also note that working in a more collaborative environment would make them happier, and happy employees prefer working from an office rather than at home ─ an important note for employers as remote work becomes increasingly common. The survey points out that less than 9 percent of people prefer working from home across all countries.

California commercial real estate is expected to expand in 2022, according to the UCLA Anderson Forecast survey. The developers surveyed felt that 2020 would see a slight slowdown. The panelists were optimistic about industrial and multifamily, and in general pessimistic about retail. The only impediment to multifamily was the lack of qualified labor and resulting increased construction costs.

Fifteen Fifty, a 40-story apartment house just being completed in San Francisco at the intersection of Van Ness and Mission, with 550 units and amenities including a dog washing station and 5,600-square-foot dog park on the fifth floor, saw construction prices go up 45% since its conception six years ago. As a result, studio apartments are going for $3,500/month and three-bedroom apartments for $9,500 a month!

Our office recently sold two commercial buildings in the city of Concord, CA, located about 30 miles to the east of San Francisco out in the suburbs. One was a 180,000-square-foot class-A office building with six stories of subterranean parking, and full-service rental rates in the $2.65/rsf range. It is in walking distance to BART, close to retail and amenities, and loaded with extras like exercise and conference facilities for the tenants. It sold for only $187/rsf! Meanwhile, also in Concord our office sold an 18,000-square-foot industrial building for an effective sale price of $200/rsf. Why would an industrial building sell for more per square foot than a class-A office building? The turnover cost of office product can easily run $40-70/rsf, and it can sometimes take six to 12 months or longer to locate a replacement tenant. Industrial, on the other hand, with a 2% vacancy factor leases like hot cakes and usually on an as-is basis.

An unbelievable office market in Silicon Valley with over 10 million square feet of new office projects under construction with over 75% already preleased! Google is partially responsible for this leasing frenzy, taking millions of square feet of office product. In a sad comparison, over in the East Bay with the Tri-Valley and I-680 Corridor, we haven’t had new office construction in many years and our office rents have to almost double to support new office product. I should have relocated to Santa Clara years ago …

I was reading in Business Facilities Magazine January/February 2020 about Uber leasing 168,000 square feet in Dallas and expanding into 450,000 square feet in three years when the second office tower is completed. I thought, darn. We lost another expansion that went to a lower cost area, but then on the same day Google announced a 222,000 square foot expansion on Moffett Boulevard in Mountain View, CA, so all was OK again …

If an office building, like a cruise ship, is infected and is shut down for a period of time with the tenants unable to have access due to the Coronavirus how is rent handled and how does this affect the landlord as well as tenant insurance policies?  Will operating expenses go up due to perhaps long-term future requirements for specialized cleaning crews to sanitize office and retail buildings?

When both my kids were living at home it was a lot easier to write about their activities, sports and events we did together. Between both my son Jordan, now 22, and daughter Madison, 17, I coached 17 seasons of soccer, little league and softball but now my son is helping run an industrial drone company in San Luis Obispo and I only see him every three to four months. Jordan is living a balanced life, working 60 hours a week (the joy of being in management) and still had time to ski both Utah and Whistler, Canada these past few weeks. Madison is on her high school badminton team, which she really enjoys and works every weekend at Alamo’s Five Guys Hamburgers. Fiancée Launa loves her language teaching job at one the highest-rated middle schools in the area and is fluent in Spanish and French, and working on Italian. Her 22-year-old daughter just got accepted to the Georgetown University graduate school so Lindsey will be headed off to Washington, DC this summer. Launa’s 19-year-old son, Ryan, is a freshman at UCLA, majoring in math and film. He couldn’t be happier down there, and absolutely loves the UCLA campus, the people, his classes and downtown Westwood. My 94-year-old father Arthur is still going strong, goes to the symphony, theater and every other concert he can, is in a bridge club, plays with a Rummikub group, is in a singing group and is working on his autobiography, so all is good all around! And yes, I warned him to stay home due to the virus but he won’t listen to me .…

Be safe, wash your hands frequently, and for those stuck in self-quarantine thank goodness for Netflix and high-speed home internet! With 43 years helping clients with all their commercial real estate needs, any type and any location, if I can’t personally assist you, I probably know someone who can so please call me!