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Property Owners Reposition Vacant Offices

Remember the "see-through" office building phenomenon that hit Houston during the mid 1980s and then Los Angeles in the early 1990s? Well, it's back. This time, it is the Bay Area that is afflicted with empty office buildings. For anyone who has followed the economy during the last two years, this is no surprise. But, because we tend to get more sophisticated with land economics as we weather one dip after another, the dynamics have changed a bit. First, it is the would-be tenants who are often holding the bag this time. And, second, developers are already fast at work with planning agencies to restructure empty inventory for the next big surge. Unlike the downturn of the early 1990s that put Southern California's speculative office developers on the ropes, the Bay Area skid is hurting the businesses that hold space leases that they now cannot fill. This difference is because of the technology industry's frantic space grab during the late 1990s. Worried about being closed out of their own home base, computer, telecom, and dot-com companies went on a speculative purchase and long-term lease binge of their own. So this time around, companies not ordinarily in the real estate business are eating the cost of empty office space. Companies have also simply canceled some projects. The most publicized of these was Cisco System's plans for a vast campus at a San Jose site known as the Coyote Valley. Although courts have recently rejected CEQA-related legal challenges on the 6.6 million-square-foot development, Cisco has already folded its tent due to drastically revised space absorption projections. The San Jose Mercury News documented some of the inventory glut last fall. In addition to abandoning Coyote Valley, Cisco Systems is leaving empty 11 buildings in San Jose and Milpitas, Inktomi is not filling two buildings in Foster City (still under construction); and 3Com has decided not to occupy an entire new campus in Santa Clara. And that's just the Peninsula and Silicon Valley. Although not known primarily as a technology sector office location, downtown San Francisco is taking a beating as well. San Francisco's financial industry and the South-of-Market dot-coms were part of the boom market, and downtown San Francisco office space grew tight even though it was among the most expensive in the country. Real estate analysts at Grubb & Ellis reported that the downtown San Francisco's negative net absorption – analyst lingo for vacancy growth – was the worst on record for the third quarter of 2001. Grubb & Ellis predicts a vacancy rise to 25% by June of 2002 — compared with a vacancy rate of only 2% two years earlier. The dampening market has also deeply affected lease rates. According to combined reports, Class A space in downtown SF has slid from nearly $79 per square foot per year for the second quarter of 2000 to $33 at the end of first quarter of 2002. This free fall in rents could be disastrous for landlords because $30 per year is widely considered the break even lease rate for offices in the vicinity of Montgomery Street. Many space owners are quickly working with local planning officials to reposition inventory. The emerging market is for users of less than 10,000 square feet, according to David Shiver, principal with Bay Area Economics in San Francisco. "In year 2000, the question at large tech companies was ‘how can I get control of my real estate picture?' Lots of people grabbed lots of pieces they ended up not needing," Shiver said. He is helping clients see the slowdown as an opportunity to do more balanced planning. Bay Area Economics is working on projects that include subdivision of campuses or large office buildings for use by multiple tenants. The way Shiver sees it, the new buildings will eventually be needed because they include the type of wiring and space flexibility that was lacking in Silicon Valley in older developments. "Today, we are planning for intensification of these areas, especially in conjunction with smart growth concepts," Shiver said. He suggested that the Silicon Valley will become denser with more integration of land uses. The greatest densities will be near transit stops accompanied with high-density housing. Still, it will take time for the smaller-user market to reverse the trend. Shiver expects that 2003 will be the turn-around year. By then, new growth may be occurring with more foresight, flexibility, and with newer urban planning concepts in place. And, possibly, the tech behemoths will have covered their poor real estate decisions of the late 1990s. Stephen Svete, AICP, is president of Rincon Consultants, Inc., a Ventura-based consulting firm. Remember the "see-through" office building phenomenon that hit Houston during the mid 1980s and then Los Angeles in the early 1990s? Well, it's back. This time, it is the Bay Area that is afflicted with empty office buildings. For anyone who has followed the economy during the last two years, this is no surprise. But, because we tend to get more sophisticated with land economics as we weather one dip after another, the dynamics have changed a bit. First, it is the would-be tenants who are often holding the bag this time. And, second, developers are already fast at work with planning agencies to restructure empty inventory for the next big surge. Unlike the downturn of the early 1990s that put Southern California's speculative office developers on the ropes, the Bay Area skid is hurting the businesses that hold space leases that they now cannot fill. This difference is because of the technology industry's frantic space grab during the late 1990s. Worried about being closed out of their own home base, computer, telecom, and dot-com companies went on a speculative purchase and long-term lease binge of their own. So this time around, companies not ordinarily in the real estate business are eating the cost of empty office space. Companies have also simply canceled some projects. The most publicized of these was Cisco System's plans for a vast campus at a San Jose site known as the Coyote Valley. Although courts have recently rejected CEQA-related legal challenges on the 6.6 million-square-foot development, Cisco has already folded its tent due to drastically revised space absorption projections. The San Jose Mercury News documented some of the inventory glut last fall. In addition to abandoning Coyote Valley, Cisco Systems is leaving empty 11 buildings in San Jose and Milpitas, Inktomi is not filling two buildings in Foster City (still under construction); and 3Com has decided not to occupy an entire new campus in Santa Clara. And that's just the Peninsula and Silicon Valley. Although not known primarily as a technology sector office location, downtown San Francisco is taking a beating as well. San Francisco's financial industry and the South-of-Market dot-coms were part of the boom market, and downtown San Francisco office space grew tight even though it was among the most expensive in the country. Real estate analysts at Grubb & Ellis reported that the downtown San Francisco's negative net absorption – analyst lingo for vacancy growth – was the worst on record for the third quarter of 2001. Grubb & Ellis predicts a vacancy rise to 25% by June of 2002 — compared with a vacancy rate of only 2% two years earlier. The dampening market has also deeply affected lease rates. According to combined reports, Class A space in downtown SF has slid from nearly $79 per square foot per year for the second quarter of 2000 to $33 at the end of first quarter of 2002. This free fall in rents could be disastrous for landlords because $30 per year is widely considered the break even lease rate for offices in the vicinity of Montgomery Street. Many space owners are quickly working with local planning officials to reposition inventory. The emerging market is for users of less than 10,000 square feet, according to David Shiver, principal with Bay Area Economics in San Francisco. "In year 2000, the question at large tech companies was ‘how can I get control of my real estate picture?' Lots of people grabbed lots of pieces they ended up not needing," Shiver said. He is helping clients see the slowdown as an opportunity to do more balanced planning. Bay Area Economics is working on projects that include subdivision of campuses or large office buildings for use by multiple tenants. The way Shiver sees it, the new buildings will eventually be needed because they include the type of wiring and space flexibility that was lacking in Silicon Valley in older developments. "Today, we are planning for intensification of these areas, especially in conjunction with smart growth concepts," Shiver said. He suggested that the Silicon Valley will become denser with more integration of land uses. The greatest densities will be near transit stops accompanied with high-density housing. Still, it will take time for the smaller-user market to reverse the trend. Shiver expects that 2003 will be the turn-around year. By then, new growth may be occurring with more foresight, flexibility, and with newer urban planning concepts in place. And, possibly, the tech behemoths will have covered their poor real estate decisions of the late 1990s. Stephen Svete, AICP, is president of Rincon Consultants, Inc., a Ventura-based consulting firm.
CP&DR at California APA Conference October 1-4

CP&DR supports APA conference in Anaheim (and online), Oct. 1-4, with panel discussion, booth, special offers. >>read more

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