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Q1 2011 | OFFICE

SAN FRANCISCO

RESEARCH & FORECAST REPORT

Continued Recovery Significant Q1 Absorption and Stable and Increasing Rents attract Investor Interest OVERVIEW Supported by an improving economy and measurable job growth, the San Francisco office market is positioned for further recovery in 2011. The first quarter marked the third consecutive quarter to post positive net absorption. A healthy 487,030 square feet of positive net absorption was recorded, which lowered the vacancy rate by 0.5 percent to 14.2 percent. Absorption was influenced more by actual job growth, rather than companies taking advantage of favorable market conditions. According to the California Employment Development Department, in February, the unemployment rate fell 0.4 percentage points to 9.1 percent. The number of unemployed in San Francisco fell by 2,000 (from 43,100 to 41,100) as the number of employed increased by 1,200 (from 410,100 to 411,300). The overall unadjusted California unemployment rate fell by 0.4 percentage points to 12.2 percent, as the ranks of the unemployed fell by 83,400.

MARKET INDICATORS Q1 2011

2011

VACANCY

The improvement in the city’s employment was measurable by the city’s leasing activity. More than 1.63 million square feet of office space were signed for during the first quarter, which is on par with the city’s historical average. Technology-related sectors accounted for 29 percent of the overall transaction volume. Strong absorption and decreasing vacancies are placing pressure on rental rates, although overall Class A rental rates slipped slightly during the first quarter by 0.3 percent to $34.15 per square foot, it has increased 12 percent year over the past year (the first quarter of 2010’s average of $30.50 per square foot.)

NET ABSORPTION CONSTRUCTION WEIGHTED RENTAL RATE NON WEIGHTED RENTAL RATE SALES VOLUME

With the return of stable and improving rental rates, investors have become more confident about the recovery of the San Francisco office market, as measured by the increased volume of investor interest. During the first quarter of 2011, eight office investment transactions closed, totalling $267 million. The improving market and the increased competition among buyers has also lowered overall cap rates for the city’s core assets.

SALE PRICES

UPDATE

EFFECTIVE RENTAL RATE QUARTERLY COMPARISON

Absorption and Vacancy Rates 600,000

20%

400,000

15% 10%

200,000

5%

0

0% -200,000

*Financial District: Class A

-5%

-400,000

-10%

600 000 -600,000

-15%

-800,000

-20% 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q '06 '06 '06 '06 '07 '07 '07 '07 '08 '08 '08 '08 '09 '09 '09 '09 '10 '10 '10 '10 '11 Net Absorption

Vacancy

*All Markets: Class A *All Markets: Class B *All Markets: Class C

4Q '10 Overall

1Q '11 Direct

1Q '11 Sublease

1Q '11 Overall

% Change

$38.40 $34.69

$36.32

$27.79

$35.03

-8.8%

$34.75

$27.01

$33.76

-2.7%

$37.39

$36.34

$27.79

$35.28

-5.6%

$34.24

$35.03

$27.01

$34.15

-0.3%

$30.88

$29.62

$24.84

$29.41

-4.8%

$29.58

$29.14

$24.84

$29.04

-1.8%

$24.75

$29.65

$32.00

$29.88

20.7%

$24.72

$26.98

$32.00

$24.73

0.0%

RENT INCREASES While rental rates slipped slightly during the first quarter, we expect overall rental rates to continue their upward trend over the coming quarters.

*weighted average rents

www.colliers.com/sanfrancisco

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RESEARCH & FORECAST REPORT | Q1 2011 | OFFICE | SAN FRANCISCO

Union Square Yerba Buena Civic Center/ Midmarket

ABSORPTION The San Francisco office market experienced 487,030 square feet of positive absorption NORTHWEST during the quarter. The majority of NORTHEAST the growth took place in the Financial District, which alone posted 349,079 square feet AIR-of positive SOUTHWEST PORT absorption. SOUTHEAST

Soma West

The payroll tax break that recently passed with 8-3 votes will benefit companies located in the Civic Center / Mid-Market area.

Expansions from tech-related industries drove much of the growth. Although the preferred location for this sector has typically been South of Market (SOMA), tech demand is now spilling into the Financial District. The surplus of office space vacated by financial firms is an enticing option for growing tech firms looking for a large block of office space. A few of the notable tech companies that occupied large blocks of space in the South Financial District include Salesforce.com, which expanded by 70,687 square feet at 123 Mission Street and added 50,000 square feet to its footprint at the Landmark at One Market Street, and Google, which took an additional 63,817 square-foot-floor at Hills Plaza. Ironically, SOMA East, the submarket where technology-related companies tend to cluster, was one of only two submarkets that experienced occupancy loss during the quarter. The submarket experienced 46,710 square feet of

UPDATE

negative absorption. The losses were mainly due to United Business Media returning 30,000 square feet in its relocation from 600 Harrison Street to 303 Second Street and Fox Interactive vacating 33,000 square feet of its office space at 625 Second Street.

VACANCY The overall growth in the market during the first quarter shed the city’s vacancy rate by 0.5 percent from to 14.2 percent. Sublease space, in particular, is diminishing due to the high demand from startups and tech firms for its flexible terms and reasonable price. Unoccupied sublease vacancy dropped by .3 percent to 0.7 percent. The tight market has made reasonable sublease options a rarity. As a result, average sublease rents have increased across the board. Leasing activity remained strong during the first quarter. More than 1.63 million square feet of office lease transactions took place. The two largest leases were completed by law firms taking advantage of still favorable fundamentals. Keker Van Nest committed to 90,264 square feet at 633 Battery Street where it plans to consolidate all of its employees. Sedgwick

Lease and Investment Transactions

SIGNIFICANT LEASES Q1 2011 PROPERTY ADDRESS

TENANT

SIZE

TYPE

One Jackson Place

Keker Van Nest

90,264

Renewal

DATE SIGNED

Mar-11

A

CLASS

333 Bush Street

Sedgewick

89,076

New

Mar-11

A

720 California Street

Goodby Silverstein

81,065

Renewal

Mar-11

A

100 North Point

William Sonoma

58,500

New

Mar-11

B

123 Mission Street

Salesforce.com

55,977

Expansion

Jan-11

A

185 Berry Street

Catholic Healthcare West

55,000

Renewal

Feb-11

A

199 Fremont Street

Aptimus

51,429

Sublease

Feb-11

A

PROPERTY ADDRESS

SELLER

BUYER

SQ. FT.

SALE DATE

CLASS

SALE PRICE

1355 Market Street / 875 Stevenson Street

ADCO Group

Shorenstein

1,105,000

Mar -11

B

$110,000,000

$99.55

1700 - 1800 Montgomery Street1

Lincoln Property Co OBO State of IL Teachers Retirement

LaSalle Investment Management

297,260

Feb -11

B

$44,000,000

$148.20

250 Brannan Street2

BROE Cos.

Kilroy Realty Corporation

92,948

Jan-11

B

$33,000,000

$355.04

530 Bush Street

STG Group

HVC Partners

103,968

Feb-11

A

$23,000,000

$221.22

200 California Street

Trophy Properties, LLC

Manchester Capital Management

21,531

Jan-11

B

$8,650,000

SIGNIFICANT SALES Q1 2011

Property is on a ground lease with 29 years remaining 2 Sale Price includes parking component valued at $3,000,000 1

P. 2

| COLLIERS INTERNATIONAL

PRICE PER SF

$366.71


RESEARCH & FORECAST REPORT | Q1 2011 | OFFICE | SAN FRANCISCO

ase

Vacant

Space

Sq. Ft.

Vaca

Sq. Ft.

Sq. Ft.

DOWNTOWN MARKET:

cy

cy

Rate

Rate

C

P i

Absorption Absorption Current- YTD-Sq. Ft. S

New

Supply

Proposed (square feet)

Vacant

New Supply

Net

Net

Under Construction (square feet)

Sq. Ft.

y

U/C & Proposed U/C & Proposed

YTD

Vacanc

Net New Supply

Vacant

Net

Net New Supply Current (square feet)

Inventory

Absorption

Vacan Vacan

YTD Net Absorption

Occupied

Net

Total

Absorption

Suble

Vacancy Rate Prior Period

Sublease

Vacancy Rate Current Period

Direct

Occupied Space (square feet)

Direct

Total Vacant (square feet)

Sublease Vacancy Rate

Existing Properties

Total

Sq. Ft.

New Supply

Absorption Sublease Vacant (square feet)

Direct Vacancy Rate

Direct Vacant (square feet)

Bldgs

Total Inventory (square feet)

Class

# of Buildings

Class

Existing Properties

Net New

Under

Supply YTD Constructio n Sq. Ft. S

C

Proposed Sq. Ft.

F

A

171

52,333,099

7,183,260

13.7%

394,812

0.8%

7,578,072

44,755,027

14.5%

15.1%

363,181

363,181

-

-

B

291

25,523,686

3,739,161

14.6%

204,100

0.8%

3,943,261

21,580,425

15.4%

17.1%

214,516

214,516

-

-

-

C

143

7,778,573

654,803

8.4%

0.0%

654,803

7,123,770

8.4%

7.1%

(90,667)

(90,667)

-

-

-

Total

605

85,635,358

11,577,224

13.5%

598,912

0.7%

12,176,136

73,459,222

-

-

288,000

5,938,520

A

105

40,236,611

4,506,769

11.2%

373,899

0.9%

4,880,668

35,355,943

12.1%

4,198,000

B

79

8,060,719

1,102,714

13.7%

18,558

0.2%

1,121,272

6,939,447

13.9%

C

43

1,896,298

162,214

8.6%

-

0.0%

162,214

1,734,084

8.6%

8.6%

Total

227

50,193,628

5,771,697

11.5%

0.8%

6,164,154

44,029,474

12.3%

13.1%

349,079

14.4%

15.1%

9.9% 10.9%

-

14.2% 14.9%

288,000

5,938,520 -

487,030

487,030

13.1%

402,178

402,178

-

-

67,000

14.1%

(39,134)

(39,134)

-

-

-

(13,965)

(13,965)

-

-

-

349,079

-

-

67,000

153,644

153,644

-

-

-

195,435

195,435

-

-

67,000

3,729,000

349,079

349,079

-

-

67,000

4,198,000

FINANCIAL DISTRICT:

392,457 -

-

4,198,000

-

SUBMARKETS: North Financial

118

26,783,376

3,634,287

13.6%

220,649

0.8%

3,854,936

22,928,440

South Financial

109

23,410,252

2,137,410

9.1%

171,808

0.7%

2,309,218

21,101,034

Total

227

50,193,628

5,771,697

11.5%

392,457

0.8%

6,164,154

44,029,474

12.3%

13.1%

Union Square

57

3,839,477

314,938

8.2%

7,218

8.4%

Yerba Buena

32

4,072,149

953,452

23.4%

SOMA West

30

2,748,771

798,452

SOMA East

53

5,125,653

592,389

Civic Center/Mid-Market

49

6,433,923

1,610,862

Jackson Square

41

2,429,895

204,575

North Waterfront

51

3,957,245

Van Ness Corridor

26

Potrero West

14

Potrero East

11

1,040,544

Mission Bay

14

2,775,091

605

85,635,358

11,577,224

13.5%

Total

469,000

0.2%

322,156

3,517,321

11.2%

29,934

29,934

-

-

-

0.0%

953,452

3,118,697 23.4% 26.5%

23,094

23,094

-

-

-

29.0%

-

0.0%

798,452

39,530

39,530

-

-

-

11.6%

57,024

1.1%

649,413

(46,710)

(46,710)

-

-

-

25.0%

-

0.0%

1,610,862

8.4%

7,734

0.3%

212,309

2,217,586

399,763

10.1%

36,363

0.9%

436,126

3,521,119

11.0%

1,608,591

209,414

13.0%

78,116

4.9%

287,530

1,321,061

17.9% 18.6%

(1,332)

(1,332)

-

-

-

-

1,410,391

101,570

7.2%

-

0.0%

101,570

1,308,821

7.2% 10.9%

24,116

24,116

-

-

-

-

70,625

6.8%

20,000

1.9%

90,625

949,919

8.7% 10.9%

12,359

12,359

-

-

-

549,487

19.8%

-

0.0%

549,487

2,225,604

19.8% 20.9%

3,488

3,488

-

-

-

0.7%

12,176,136

73,459,222

14.2% 14.7%

487,030

487,030

-

-

240,287

598,912

1,950,319 29.0% 24.0% 4,476,240

12.7% 13.8%

4,823,061 25.0% 25.6% 8.7% 10.4% 8.1%

140,000 870,000

11,948

11,948

-

-

33,593

33,593

-

-

221,000 -

-

7,931

7,931

-

-

-

-

730,520

288,000

5,938,520

-

QUARTERLY COMPARISON AND TOTALS Q4 -10

605

85,442,720

11,702,139

13.7%

877,621

1.0%

12,579,760

72,862,960

14.7% 14.8%

245,229

Q3 -10

605

85,442,720

11,540,647

13.5%

1,074,342

1.3%

12,614,989

72,827,731

14.8% 15.0%

200,072

Q2 -10

605

85,442,720

11,668,426

13.7%

1,146,635

1.3%

12,815,061

72,627,659

15.0% 14.6% (292,962)

Q1 - 10

605

85,442,720

11,389,438

13.3%

1,110,636

1.3%

12,500,074

72,942,646

14.6% 14.6%

87,948

320,000

288,000

5,938,520

(4,942)

210,000 -

182,073

277,000

6,383,520

(205,014)

-

182,073

320,000

6,383,520

87,948

-

182,073

320,000

6,383,520

TAX CREDIT The central component of the tax credit will provide payroll tax exemptions for new employees hired by companies that move to the Mid-Market Street area roughly between Fifth and 11th Street. Any company that pays 1.5% payroll taxes (those with payrolls above $250,000) would be eligible for the exemption. The pay roll exemption is proposed to last up to six years.

COLLIERS INTERNATIONAL |

P. 3


RESEARCH & FORECAST REPORT | Q1 2011 | OFFICE | SAN FRANCISCO

VACANCY CONTINUED signed a 10-year 90,000 square-foot-lease at 333 Bush Street. The company will relocate from One Market Plaza, to move into the space previously occupied by the defunct law firm Heller Ehrman. Twitter is close to signing a deal at 1355 Market Street, the former Furniture Mart. The transaction hinged on the city’s approval of the Mid-Market area pay roll tax break. Twitter will occupy 200,000 square feet of the 1.1 million-squarefoot property.

RENTS Rental rates for direct Class A and B assets decreased slightly during the quarter, but they are up over the last 12 months by 12 percent and 17.2 percent, respectively. As the overall vacancy rate continues to fall, rents are expected to continue their upward trend the duration of the year. Average rental rates for Class A space fell 2.6 percent to $35.03 per square foot during the quarter. The average rental rate for Class A assets in the Financial District experienced similar trend as it slipped 3.2 percent during the quarter to $35.75 per square foot. The dip in rental rates during the quarter was due to the number of “bargain” lease transactions by technology firms in commodity Class A office space (i.e non-view, “vanilla” build out) during the quarter. While once abundant, the number of reasonable sublease offerings in premium assets are becoming scarce, and as a result, rental rates are increasing. The average effective rental rate for Class A sublease transactions increased 16.2 percent during the quarter to $27.01 per square foot. We expect this trend to continue in the coming quarters, as sublease offerings continue

to diminish, and some of the pressure is taken off office space offered directly.

INVESTMENTS The improving market fundamentals in the San Francisco office market coupled with the pool of investors looking to acquire properties has created a highly competitive sale market for core assets. The investment transaction volume in San Francisco during the first quarter was approximately $267 million. Several significant investment transactions took place during the quarter, topped by Shorenstein Properties’ $110 million acquisition of Market Square, a two-building complex that includes 1355 Market Street and 875 Stevenson Street. Shorenstein acquired the portfolio in January from ADCO Group. Other notable transactions include the fourproperty complex located at 1700 Montgomery Street was acquired by LaSalle Investment Management, who paid about $44 million or $148 per square foot for the complex. The buildings were nearly 70 percent occupied at the time of the transaction. Also, BROE sold 250 Brannan Street, a classic South of Market (SOMA) gem. The building once served as a salami factory, but it was renovated into a 92,948-square-foot, brick and timber creative office space. Kilroy acquired the asset for $33 million. Looking ahead, three significant transactions: 500 Terry Francois Boulevard, 350 Rhode Island, and 250 Montgomery Street, valued at approximately $175 million are expected to close during the second quarter. As owners seek to capitalize on improving market fundamentals, we anticipate an active and competitive investment environment this year.

480 offices in 61 countries on 6 continents United States: 135 Canada: 39 Latin America: 17 Asia Pacific: 194 EMEA: 95 • $1.6

billion in annual revenue

million square feet under management

• 672.9 • Over

10,000 professionals

SAN FRANCISCO: Alan D. Collenette Managing Director 50 California Street 19th Floor San Francisco, CA 94111 TEL +1 415 788 3100 FAX +1 415 433 7844

RESEARCHER: Tove Nilsen Research Director tove.nilsen@colliers.com TEL +1 415 288 7827

This document/email has been prepared by Colliers International for advertising and general information only. Colliers International makes no guarantees, representations or warranties of any kind, expressed or implied, regarding the information including, but not limited to, warranties of content, accuracy and reliability. Any interested party should undertake their own inquiries as to the accuracy of the information. Colliers International excludes unequivocally all inferred or implied terms, conditions and warranties arising out of this document and excludes all liability for loss and damages arising there from. Colliers International is a worldwide affiliation of independently owned and operated companies.

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Q1 2011 Market Report