New Office Space in San Francisco Just in Time

The San Francisco Business Times recently ran a story announcing that more than 3 million square feet of new office space is planned to become available during the next three years. This would be the most new office space developed in San Francisco since the 1980s.

This new space could not be more welcomed by office tenants and the real estate community. Since November the vacancy rate in San Francisco has dropped to less than 8%, an amazing two point drop in three months. There is pressure to increase rental rates in all classifications of buildings. Ironically, one of the reasons that the city has experienced such a steep decline in office vacancy rates is also the reason why there is so much interest in creating new office space: the residential condo market.

Over the last several years, many office buildings have been converted into residential condo projects. This has had a tremendous impact on office vacancy rates: Supply has been eliminated by these conversations. Now with the residential condo market softening, projects that once were considered residential condo conversations or brand-new condo construction projects are being retooled into office projects.

Another factor that has driven interest in office development is that the city is starting to see office rents that support such development. Most Class A developers will tell you that they need $55–$60 per square foot minimum to justify an office development project. These rental rates and higher are now being seen at the Embarcaderos, One Maritime Plaza, and One Market Street.

The good news for tenants is that this market will help stabilize rents. It will also benefit commercial real estate firms, architects, construction companies, attorneys, and others who thrive in construction boom markets.

Although these rental rates may seem shocking to tenants today, they are not unheard of. The first $50 per square foot rent was seen as early as 1981. When I started as a commercial real estate broker in 1984, most Class A buildings sustained these rental rates and higher. The rest of the 1980s saw over-construction, followed by an office depression in the early 1990s. The market recovered briefly during the dot-com boom, which was too short-lived to see large amounts of new Class A buildings built to address that market’s office shortages. When that boom ended and the office market collapsed, the older office space was the norm, not new development. Now we are seeing new construction to accommodate the new market trend as well as a mature market that is expanding steadily. In this type of environment, everyone wins.