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Q2 2011 | office

san francisco

research & forecast Report

From Recovery to Rapid Expansion Overview The San Francisco office market is beyond the recovery phase of the market cycle and well into the expansion period. Absorption growth, low vacancy, and a lack of new supply have combined to drive rents and encourage new and existing owners to kick off redevelopment plans. During the second quarter of 2011, the city experienced 560,121 square feet of positive net absorption, which brought the year–to-date total to 1,047,151 square feet. The growth during the quarter pushed the vacancy rate down to 13.6 percent from 14.2.

market indicators Q2 2011

Despite tenant expansions, job gains were anemic. The unemployment rate has been declining largely due to a dwindling labor force, not from an increase in hiring. At 8.4 percent in April, San Francisco’s unemployment rate is slightly below the U.S. rate at 9.0 percent and well below the overall State of California’s rate at 11.4 percent.

2011

Vacancy

Nearly 1.7 million square feet of lease transactions took place during the quarter, which is on par with the city’s historical average. The success of the technology sector is still driving the local economy, as small to mid-size technology firms accounted for more than 44 percent of the market’s total activity. Leasing activity from finance and insurance companies is also beginning to gain traction, and represents nearly 23 percent of the total transaction volume.

net absorption construction weighted rental rate Non weighted rental rate

Strong leasing activity and continued tenant demand pressured increases in rents across the board. The non-weighted average effective rent for Class A space increased 8.1 percent during the quarter to $36.92 per square foot. The weighted average for the same category surged 15.8 percent to $40.85 per square foot during the same period. Several larger lease transactions with high price tags at 1 Maritime Plaza and One Market Street explain the difference between the two.

Sales volume Sale prices

High investment sale prices and a high volume of trades allowed for the San Francisco investment market to experience impressive growth during the second quarter of 2011. Based on closed update

effective rental rate Quarterly comparison

Absorption and Vacancy Rates 800,000

20%

600,000

15%

400,000

10%

200,000

5%

0

0%

-200,000

-5%

-400,000

-10%

-600,000

-15%

-800,000

-20% 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q '04 '04 '04 '05 '05 '05 '05 '06 '06 '06 '06 '07 '07 '07 '07 '08 '08 '08 '08 '09 '09 '09 '09 '10 '10 '10 '10 '11 '11

Net Absorption

1Q '11 Overall *Financial District: Class A *All Markets: Class A *All Markets: Class B

Vacancy

*All Markets: Class C

2Q '11 Direct

2Q '11 Sublease

2Q '11 Overall

% Change

$35.03

$43.15

$24.18

$41.72

19.1%

$33.76

$38.12

$24.06

$36.95

9.4%

$35.28

$42.35

$24.79

$40.85

15.8%

$34.15

$38.08

$24.55

$36.92

8.1%

$29.41

$30.74

$31.57

$30.75

4.6%

$29.04

$31.80

$31.26

$31.78

9.4%

$29.88

$33.83

$20.45

$32.96

10.3%

$24.73

$29.82

$20.45

$28.48

0.0%

rent increases Several larger lease transactions with high price tags at 1 Maritime Plaza and One Market Street during the quarter explain the dramatic difference between weighted and non weighted rents.

*weighted average rents

www.colliers.com/sanfrancisco

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research & forecast report | Q2 2011 | office | san francisco

transactions, buildings in escrow, and active investment offerings, it is expected that San Francisco’s investment volume will exceed $2 NORTHWEST billion in NORTHEAST 2011.

South Financial District Yerba Buena

Soma East

Looking ahead, many owners and developers are AIR-off plans that were shelved during the dustingPORT SOUTHWEST last economic SOUTHEASTdownturn. San Francisco is now well into the expansion segment of the office market cycle, as Shorenstein, GLL Properties, Tishman Speyer, and SKS Investments move forward with projects that will add a total of 1.1 million square feet to the city’s supply.

The success of the technology sector is still driving the local economy, as small to mid-size technology firms accounted for more than 44 percent of the market’s total activity. This is evidenced by the activity in SOMA East, the preferred address of the technology sector. During the quarter, the submarket’s vacancy dipped below the 10 percent mark, (historically the trigger for rents to surge) to 9.8 percent.

update

additional 9,801 square feet at 706 Mission Street. In addition to organic growth there were 69,000 square feet of new tenants. Newcomers to the market included Grass Valley, who took 13,907 square feet at 475 Brannan, Cloudera, who took 10,440 square feet at 433 California and Meebo, who took 9,593 square feet at 101 Montgomery Street. Dewey LeBoef, a law firm, returned to the city after a brief relocation to Silicon Valley and occupied 19,844 square feet at One Montgomery tower.

Absorption

VACANCY

Largely driven by well-funded technology firms either entering the San Francisco market for the first time or expanding an existing footprint, the city experienced 560,121 square feet of positive absorption during the quarter, which brought the year to date total to 1,047,151 square feet.

Absorption growth during the quarter shed .6 percentage from the city’s overall vacancy dropping it to 13.6 percent from 14.2 percent.

The absorption was driven by organic growth from several small to mid-sized companies, mainly in the tech sector, taking on more space. Examples include Zinio, who took another floor of 15,608 square feet at 114 Sansome Street, ngMoco, who expanded into 12,277 square feet at 475 Brannan Street, and Yelp, who took an

Vacancy rates varied between submarkets. The SOMA East submarket, the preferred location of the technology sector, dipped to 9.8 percent. Historically when vacancy drops below 10 percent, rents surge. With little vacant subease space to turn to, rents for direct space will increase dramatically. Vacant sublease space provides an economic option for tenants with flexible lease terms, and

Lease and Investment Transactions

Significant leases Q2 2011 Property Address

Tenant

size

Type

1355 Market Street

Twitter

200,000

New

Date Signed

April-11

B

Class

1 Maritime Plaza

Farallon Capital

63,246

Renewal

May-11

A

1 Maritime Plaza

Pisces

63,000

Renewal

May-11

A

Two Embarcadero Center

Cornerstone Research

42,291

Sublease

Jun-11

A

1 Maritime Plaza

Offit Hall Capital Management

43,692

Renewal

Apr-11

A

101 2nd Street

Moss Adams

28,577

New

Jun-11

A

50 Beale Street

Vertical Response

28,121

New

Jun-11

A

425 Market Street

Regus Business Center

27,506

Renewal

April-11

A

Property Address

Seller

buyer

sq. ft.

101-121 Spear Street

Beacon Capital Partners

Hudson Pacific

499 Illinois Street*

Shorenstein Properties jv. SKS Investments

500 Terry Francois Boulevard

Significant sales Q2 2011 class

547,964

May-11

A

$189,000,000

$344.91

Alexandria RE Equities

453,256

Apr-11

A

$293,000,000

$646.43

The Lionstone Group

Sobrato/TMG Partners

291,000

May-11

A

$95,050,000

$326.63

350 Rhode Island Street

Paladin Realty Partners

Tishman Speyer

135,509

Apr-11

A

$42,000,000

$309.94

250 Montgomery Street

Argonaut Private Equity

McMorgan & Co.

118,538

Jun-11

A

$37,050,000

$312.56

275 Sacramento Street

Vornado Realty Trust

Open TV Corp

77,200

Apr-11

A

$36,800,000

$476.68

*Primarily Medical Office Building

p. 2

| Colliers International

sale price

price per sf

Sale date


research & forecast report | Q2 2011 | office | San Francisco

YTD Net Absorption

Net New Supply Current (square feet)

7,287,586

45,045,513

13.9%

15.1%

295,628

658,809

-

-

0.2%

3,745,231

21,778,455 14.7%

17.1%

198,030

412,546

-

-

-

C

143

7,778,573

586,580

7.5%

1,760

0.0%

588,340

7,190,233

7.6%

7.1%

66,463

(24,204)

-

-

-

Total

605

85,635,358

11,218,132

13.1%

403,025

0.5%

11,621,157

74,014,201

13.6%

14.9%

560,121

1,047,151

-

-

288,000

5,938,520

A

105

40,236,611

4,309,725

10.7%

347,957

0.9%

4,657,682

35,578,929

630,306

4,198,000

B

79

8,060,719

1,088,395

13.5%

9,808

0.1%

1,098,203

C

43

1,896,298

136,620

7.2%

-

0.0%

Total

227

50,193,628

5,534,740

11.0%

0.7%

Class

Proposed (square feet)

Current Net Absorption

0.7%

51,525

Under Construction (square feet)

Vacancy Rate Prior Period

349,740

14.5%

YTD

Vacancy Rate Current Period

13.3%

3,693,706

Occupied Space (square feet)

6,937,846

25,523,686

Total Vacant (square feet)

52,333,099

291

Direct Vacant (square feet)

171

B

Total Inventory (square feet)

A

# of Buildings

Sublease Vacant (square feet)

U/C & Proposed

Direct Vacancy Rate

Net New Supply

New Supply

Absorption Sublease Vacancy Rate

Existing Properties

DOWNTOWN MARKET: 288,000

5,938,520 -

FINANCIAL DISTRICT:

357,765 -

11.6%

13.1%

228,128

-

-

67,000

6,962,516 13.6%

14.1%

23,069

(16,065)

-

-

-

136,620

1,759,678

7.2%

8.6%

25,594

11,629

-

-

-

5,892,505

44,301,123

11.7%

13.1%

276,791

625,870

-

-

67,000

-

4,198,000

-

SUBMARKETS: North Financial

118

26,783,376

3,403,658

12.7%

254,207

0.9%

3,657,865

23,125,511

13.7%

15.1%

197,071

350,715

-

-

-

South Financial

109

23,410,252

2,131,082

9.1%

103,558

0.4%

2,234,640

21,175,612

9.5%

10.9%

79,720

275,155

-

-

67,000

3,729,000

Total

227

50,193,628

5,534,740

11.0%

357,765

0.7%

5,892,505

44,301,123

11.7%

13.1%

276,791

625,870

-

-

67,000

4,198,000

Union Square

57

3,839,477

283,565

7.4%

1,783

0.0%

285,348

3,554,129

7.4%

11.2%

36,808

66,742

-

-

Yerba Buena

32

4,072,149

963,719

23.7%

0.0%

963,719

3,108,430 23.7%

26.5%

(10,267)

12,827

-

-

-

SOMA West

30

2,748,771

774,558 28.2%

22,134

61,664

-

-

-

SOMA East

53

5,125,653

471,510

144,903

98,193

-

-

-

Civic Center/Mid-Market

49

6,433,923

Jackson Square

41

2,429,895

203,874

8.4%

North Waterfront

51

3,957,245

410,871

10.4%

Van Ness Corridor

26

1,608,591

279,621

17.4%

Potrero West

14

1,410,391

66,722

Potrero East

11

1,040,544

73,604

Mission Bay

14

2,775,091

605

85,635,358

Total

1,760

0.1%

776,318

1,972,453 28.2% 24.0%

33,000

0.6%

504,510

4,621,143

-

0.0%

1,605,861

-

0.0%

203,874

0.2%

-

0.0%

4.7%

-

7.1%

-

549,487

19.8%

-

11,218,132

13.1%

9.2%

1,605,861 25.0%

8,717

403,025

469,000

140,000 -

9.8%

13.8%

4,828,062 25.0%

25.6%

5,001

16,949

-

-

221,000

2,226,021

8.4%

10.4%

8,435

42,028

-

-

-

419,588

3,537,657 10.6%

8.1%

16,538

24,469

-

-

-

-

279,621

1,328,970

17.4%

18.6%

7,909

6,577

-

-

-

-

0.0%

66,722

1,343,669

4.7%

10.9%

34,848

58,964

-

-

-

-

0.0%

73,604

966,940

7.1%

10.9%

17,021

29,380

-

-

-

0.0%

549,487

2,225,604 19.8%

20.9%

-

3,488

-

-

-

0.5%

11,621,157

74,014,201

13.6%

-

-

14.7%

560,121

1,047,151

288,000

870,000 -

730,520 5,938,520

-

QUARTERLY COMPARISON AND TOTALS Q1 - 11

605

85,540,175

11,577,224

13.5%

598,912

0.7%

12,176,136

73,364,039

14.2%

14.7%

487,030

487,030

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

240,287

210,000

320,000

288,000

5,938,520

288,000

5,938,520

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

(4,942)

-

182,073

277,000

6,383,520

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) (205,014)

-

182,073

320,000

6,383,520

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%

-

182,073

320,000

6,383,520

87,948

87,948

Investment sales Market Investment sales activity will be strong through the second half of 2011 as an equilibrium between buyers and sellers begins to appear. The rapidly improving market fundamentals will continue to encourage an aggressive bidding environment for most downtown assets.

Colliers International |

p. 3


research & forecast report | Q2 2011 | office | san francisco

when in large supply, it can decrease overall rents. However sublease vacancy has diminished rapidly, and currently stands at 0.5 percent, 37.5 percent drop from last quarter’s 0.8 percent, and the lowest point since Q3 2000.

RENTS With supply dwindling, rental rates saw a dramatic shift during the quarter. The overall average non weighted net effective rental rate for Class A office space increased 8.1 percent to $36.92 per square foot. The average net effective rent for direct Class A office space specifically in the Financial District increased 9.4 percent to $38.12 per square foot A slough of larger-sized renewals drove the dramatic increase in average effective rental rates, as renewals and large tenants typically demand a higher rent than a new lease. Out of the 15 transactions that commanded rental rates greater than $50 per square foot during the quarter, ten were renewals. The average non weighted net effective rental rate for renewals in Class A office space was $44.64 per square foot, compared to $32.96 per square foot for new leases in Class A space. Average effective rents for Class A office space in the North Financial District increased 6.9 percent to $36.80 per square foot during the quarter. The increase was largely influenced by several renewals that took place at One Maritime Plaza that were greater than $50 per square foot. Similarly, the average effective rent for Class A office space in the South Financial District increased 14.0 percent to $37.24 per square foot during the quarter, due to a significant number of large renewals at One Market. Looking forward, tenant demand will further tighten market conditions. We expect the market will experience a total of 1.75 million square feet of absorption growth by year end, an all time high since the 3 million square feet of tenant growth recorded in 2000. Currently there is a

total of 140 tenants in the market with 3.69 million square feet of office space requirements. While it is highly unlikely that 100 percent of these tenants will fulfill their stated space needs, it does provide an indicator that there will be healthy leasing activity for the remainder of the year. As a result, Class A non-weighted rental rates will likely increase further by 5-10 percent by year end, for a total increase of 13 to 18 percent year over year.

INVESTMENTS Strong market rent growth along with more than 1 million square feet of positive absorption through the second quarter has encouraged aggressive underwriting by investors and a competitive bidding process for most assets. The South of Market submarket continues to surprise the investment community as the best buildings with “brick and timber” office space are commanding pricing above $400 per square foot. Remarkably, since the market bottomed in December 2009, the average price for a typical Class A building has risen by 50 to 70 percent. For example, 250 Montgomery Street traded for $177 per square foot at the end of 2009, and it recently closed for $313 per square foot, a 77 percent increase. High Investment sale prices and a high volume of trades allowed for the San Francisco Investment market to experience impressive growth through the first two quarters of 2011. Based on closed transactions, buildings in escrow, and active investment offerings, it is expected that investment volume in San Francisco will exceed $2 billion in 2011. Several more deals are expected to close through the end of 2011 as the San Francisco market continues to show strength. However, the abundance of new offerings currently on the market could potentially temper pricing expectations as a balance between supply and demand is approached.

512 offices in 61 countries on 6 continents United States: 125 Canada: 38 Latin America: 18 Asia Pacific: 214 EMEA: 117 (Europe, Middle East, and Africa) • $1.5

billion in annual revenue

million square feet under management

• 979

• Over

12,000 professionals

San Francisco: Alan D. Collenette Managing Director 50 California Street 19th Floor San Francisco, CA 94111 tel +1 415 788 7850 FAX +1 415 433 7844

Marketing: Sonia Roll Regional Marketing Manager sonia.roll@colliers.com tel +1 415 288 7836

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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Q2 2011 Research Report