Next-generation technology firms are expanding at a rapid pace, shoring up demand for office space, particularly in buildings offering creative space South of Market. However, San Francisco’s traditional tenant base—financial, legal, and insurance services—is slow to recover, in line with the overall economy, and remains focused on consolidating operations and increasing workspace efficiency.
On a trailing four-quarter basis (the sum of all leasing activity over the last four quarters), leasing volume equaled approximately 5.5 million square feet, well below the market’s historical average, according to the San Francisco Studley Report, Studley’s analysis of office market conditions in the city and surrounding areas.
“Despite the thriving technology sector, San Francisco’s office market still has an 18 percent availability rate, down from 18.4 percent the previous quarter, or more than 14.5 million square feet for lease,” said Steve Barker, Studley executive vice president and branch manager of the firm’s San Francisco office. “This means we would need to add approximately 28,000 office-using jobs to bring the rate down to 10 percent, the accepted tipping point in terms of a shift from a tenant-favorable to landlord-favorable market.”
“To provide some perspective, locally, only 1,700 office-using jobs were regained in the second half of 2010,” added Barker.
Asking rents increase
Still, overall asking rents rose in the first quarter, with Class A rents increasing 2.8 percent to $32.21, full service.
“Aggressive hikes in pricing may be a bit premature and it remains to be seen whether landlords will be able to make their asking rents stick,” said Barker. “Yes, there’s exuberance in the marketplace and that’s very positive, but without significant growth in jobs, it might just be irrational exuberance.”
Sublease opps retreat
Sublease space has steadily declined since peaking in 2009. Now totaling less than 1.5 million square feet, available sublease space has retreated to pre-recession levels as active tenants take advantage of discounted rates.
Three of the significant transactions signed by tech tenants in the first quarter leveraged sublease opportunities, including those executed by social gaming companies Big Point and Kabam and web discovery engine StumbleUpon. Big Point subleased an entire floor in the Orrick Building at 500 Howard Street from Sun Microsystems, while Kabam subleased a floor at 405 Howard Street from Stantec. StumbleUpon subleased Slide’s former space at 301 Brannan (Slide was previously acquired by Google).
Will tech tenants cross Market?
Owners of Financial District buildings are hoping to experience the forward momentum tech tenants are creating South of Market, although it remains to be seen whether these companies will cross the Market Street boundary to lease traditional corporate high-rise offices.
The critical issues keeping tech tenants from expanding into submarkets north of Market Street are lack of open, creative space and lack of transportation. Caltrans, which is critical for connecting young workers and engineering talent from the South Bay to offices in San Francisco, does not extend north of Market Street.
Other Key Findings
Asking Rents Rise
Despite lackluster demand from all tenant sectors other than tech, landlords raised overall asking rents 3.4 percent in the first quarter to $31.07 per square foot, full service. Class A asking rents increased 2.8 percent to $32.21.
Leasing activity declined slightly for a second consecutive quarter. Approximately 1.1 million square feet were leased in the first quarter.
Large Block Inventory Declines Slightly
The number of available large contiguous blocks of space (50,000 square feet or more) declined slightly in the first quarter to 46 from 48 the previous quarter.
The San Francisco office market has a long road to recovery. Employment growth has trailed behind corporate profits, hindering a stronger resurgence in commercial real estate markets. Still, positive momentum is prevailing. Availability has retreated from historic highs, inventory is stable, and demand for space is slowly increasing. Opportunities for tenants are still plentiful, although in certain submarkets and within certain categories of space, options are narrowing.