WHAT’S HAPPENING IN SAN FRANCISCO?
There is a corporate real estate crisis unravelling before our very eyes in the tech heart of the world, San Francisco. The vacancy rate of office space hit a staggering 29.5% in Q1 of 2023, the highest ever on record for the Californian tech behemoth.
This means that right now the office leasing sector is in worse shape than during the 1995 dot com crash, the 2008 financial crisis and the 2019 pandemic, so it’s apparent that something is seriously seriously wrong in the Bay area.
But how did San Francisco get here, and what can the current crisis (and the potential solutions) teach us in the office leasing sector and those looking for a new office in the era of hybrid working?
TENANT SIDE - THE IMPACT OF THE PANDEMIC
Pre 2019, San Francisco was one of the hottest office property markets on the planet. As the heart of Silicon Valley, business giants like Twitter, SalesForce, Meta, Airbnb and Uber all have a large presence in the area.
Fast forward 4 years, and San Francisco is a corporate ghost town. Why? Well, a large part of this tectonic change is because the pandemic changed the way companies use their offices. Just here in London, days in the office for workers plummeted from 4.2 before the pandemic to below 2.5, and San Francisco’s huge tech scene created a perfect storm for remote working to sweep through the city, leaving offices empty. In fact, San Francisco is referred to as the “WFH capital of the world” with 47% of employees working from home by 2021.
San Francisco’s overreliance and similarity in the kind of companies that are based there meant that when fully remote became a viable option, a lot of companies jumped at the chance to remove the office from the equation. A more diversified tenant portfolio may have helped stem the tide of rising vacancy rates, but currently, the demand for office space in San Francisco has cratered, leaving a lot of empty office space that won’t be filled.
And the problem shows no sign of slowing down, with Cresa data showing that around 4 million square feet of office space will have leases expire by the end of 2025, adding to the 1 million square feet that hit the market in Q1 2023.
LANDLORD SIDE - PANIC SUB LEASING
But the problems don’t just exist on the demand side, as a lot of this leased space is actually subleased, and giant tenants like Meta are pushing down prices by offering their properties via sublease at a cheaper rate than landlords trying to directly lease their properties.
This is because, with panic subleasing, the objective is to control carrying costs rather than make a profit or break even. This means that the overall market for office space reduces in profitability, and new investment into the space is stifled. This is evidenced by the rapid reduction in rates in the Bay area, with Class A space rent dipping to $74.59 per square foot per year, down about 16% from the peak in 2019.
This is all undoubtedly fascinating insight into a modern market collapse, but what does it teach us about a healthy functioning market?
WHAT DOES IT TELL US ABOUT A HEALTHY OFFICE LEASING MARKET?
The current crisis in San Francisco's office market tells us a few things about what makes for a healthy office leasing market.
First, it's important to have a diversified tenant portfolio. This means having a mix of different types of companies, from large tech firms to small startups. When there is a lot of reliance on one type of tenant, such as tech companies, it can be very disruptive when outside market forces (like the pandemic and subsequent rise in hybrid and remote working) impact the demand.
Second, just like with any market, it's imperative that there is a healthy mix of demand and supply. This means that prices remain stable and crucially, that there is a return on investment for those looking to enter the market on the supply side so that there is a steady and guaranteed flow of investment into the market. If you notice rates dropping too quickly or existing landlords offering huge reductions in rates for retention, then it may be worth looking into the health of the market to judge your best options!
Finally, the importance of flexibility cannot be overstated. San Francisco’s office rental market lacked flexibility due to the insane growth in the area and companies locking themselves into long-term leases, that they were then unable to sublease.
HOW CAN FIXED HYBRID AND OFFICE SHARING HELP?
It’s far from being the sole antidote to San Fransisco’s office rental troubles,but there are huge benefits to some of the part-time solutions Space32 offers that could help with maintaining a healthy office rental market.
The first is greater ability and flexibility to sublease. Tenants can be easily matched to seekers through the Space32 platform, and what’s more, can create subleasing situations that benefit both parties and allow for a more profitable partnership than panic subleasing.
The second is that the model we are pioneering more accurately reflects the future of work. A large swathe of employees will most likely never return to a fully office-based work schedule, so why should tenancy contracts be based on that assumption? Instead, adopting an office part-time is a much more economically viable and sustainable solution, which is the antithesis to the long-term, inflexible contracts based on predicted growth that was prevalent in the San Francisco rental market.
If you are interested in a new office or want to explore our range of listings with part-time and full-time options, check out our marketplace of 2000+ offices today!
