san_francisco

Race to build in San Francisco

Technology sector fuelling demand for new office space
Monday, October 21, 2013
By Caroline Rooney

Developers are in a race to build the next new addition to the San Francisco skyline.

Over the past two years, strong tenant demand, especially from technology firms like Salesforce, Square and Twitter, has propelled San Francisco to outperform much of the U.S. and global market. Vacancy rates have fallen below 10 per cent – the first time the rate has dipped this low since prior to the recession. Rent growth has been robust, increasing more than 45 per cent in the past two years.

Now, for the first time since 2008, developers have broken ground on projects that will have major impacts on the San Francisco market for years to come. In total, more than 1 million square feet is presently under construction in the city.

Before this focus on new construction, the influx of technology firms began to impact the local market with renovations of older buildings throughout the city. In 2011, the renovation began on 680 Folsom St., formerly occupied by Pacific Bell, into a steel and glass building, as well as the renovation of the San Francisco Furniture Mart into the Twitter Building, which has become an anchor in the city’s booming mid-market technology hub.

The success of these high-profile renovations, along with the strong market, encouraged other owners and developers to begin transforming even more of the city’s older buildings into modern, open, technology-friendly spaces. Today, 2.6 million square feet of office space is currently being renovated. This includes notable renovations at 140 New Montgomery St. and 888 Brannan St.

Alongside this focus on renovation, tight market conditions and rents approaching replacement cost levels have spurred interest in constructing new buildings from the ground up.

In July 2012, Tishman Speyer began construction on Foundry Square III (505 Howard St.), the last remaining open site of the four properties that comprised the four-building Foundry Square “urban campus” development. The developer jumped to take advantage of market conditions ahead of lining up an anchor tenant. Construction is now underway, with completion slated for the first quarter of 2014.

The owners of 350 Mission St. were set to begin construction around the same time as Foundry Square III, but at the last minute they decided to sell the site to Kilroy Realty Corp. in October 2012. Two months later, Kilroy lined up Salesforce to lease the entire building before construction even began on the project, which is expected to come online in 2015.

The third building currently underway is Boston Properties’ development of 307,000 square feet at 535 Mission St. Like Foundry Square III, this building is also under construction without a signed anchor tenant.

Developers are queued up to build an additional 2.4 million square feet during the next three to four years, including the Transbay Tower, which will add 1.4 million square feet to the city’s skyline in 2016. Tishman Speyer is also ready to start construction on another building at 222 Second St.

In total, 6.1 million square feet of new space is expected to come online throughout San Francisco through 2016, of which 45 per cent will be renovated space. So far, approximately 35 per cent of it has been pre-leased. Fortunately, San Francisco is projected to have strong employment growth of 2.7 per cent per year during the next three years, far outpacing the U.S. average of 1.9 per cent, which bodes well for the leasing of these new buildings. Even with the higher levels of new construction expected over the next few years, the vacancy rate is expected to stay below the 10 per cent threshold, with rent growth averaging 7.5 per cent per year through 2016.

Caroline Rooney is the managing director of research for Northern California and capital markets at Cushman & Wakefield. She can be reached at caroline.rooney@cushwake.com.

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