Despite Sector Decline, Local Developers Have Hope

There is still some hope from local developers. In a recent interview with GlobeSt.com, San Francisco-based Myers Development Co. chairman and CEO Jack Myers said that "we think that the worst of all that's been going on is behind us, and [we] have an abiding belief and respect for the Peninsula market. While these are disappointing times when it comes to leasing the market, the fundamentals over time are pretty solid." (To read the full story, visit http://www.globest.com/news/1316_1316/sanfrancisco/176030-1.html).

While activity has been down, like in most areas throughout the country, owners are becoming more realistic with regards to pricing and offering incentives and are even open to taking commitments for future occupancy in their buildings. "In order to attract a dwindling pool of tenants," Swig Co.'s Schoenberg states, "desperate landlords are starting to offer significant concessions." Other landlords are offering bonus commissions, he adds.

Schoenberg's comments were echoed in Cushman & Wakefield Inc.'s Q4 '08 report, which said that the current environment has forced landlords to rethink strategies and lower asking rents in order to maintain building occupancy. "Tenants have definitely taken the upper hand in lease negotiations and will continue to hold an edge throughout 2009," the firm forecasts. "The next 12 to 18 months will expose a variety of space options for bargain hunting tenants."

Going forward, Sternberg predicts an increase in sublease space and bankruptcies with continued downward pressure on rental rates, with dramatic write-downs in property values "as macro-economic events continue to plague the market." And while it remains unclear how long the declining market conditions will last, with its mix of high-tech and traditional businesses, Sternberg says the Peninsula market remains well positioned to weather the storm.

Industrial, Strong Foundation

The biotech firm Beckman Coulter recently put a five building R&D/Flex complex in Palo Alto on the market for sublease, representing more than 260,000 square feet of newly available space. Also in Palo Alto, construction was completed on the 78,000-square-foot R&D/flex building located at 3420 Hillview Ave. The project broke ground in the fourth quarter of 2007 and was 100% occupied upon completion by SAP.

And although activity did remain slow in the fourth quarter, a few transactions were completed including Biotech firm Portola Pharmaceuticals' 24,725-square-foot lease of R&D space at 270 E. Grand Ave. in South San Francisco and SDV International's 21,522-square-foot lease of warehouse space at 415 E. Grand Ave.

The increase in available space has begun to put downward pressure on asking rates as well, Smith notes, with the overall rates experiencing the first decreases since 2003. "The uncertainty in the overall economy remains the largest concern for the market in 2009," Smith says, however, he adds that "The Bay Area is better prepared to react quickly to any signs of sustained economic strength."

The combination of the Easy Bay's ports and infrastructure, the Peninsula's significant biotech presence and Silicon Valley's global reputation in technological innovation will provide a strong foundation for growth in a market recovery, Smith says.

Limited Development Helps RetailThe Bay Area retail market is seeing a progressive downward trend similar to most other retail markets across the nation as a result of low consumer confidence, job losses, dwindling international tourism and business travel.

Business credit is tight at all levels and publicly-traded equity shares in retailers have been affected such that occupiers have been seriously challenged in their ability to capitalize for expansion, says CBRE's Smith. Home equity lines of credit—the source of capitalization for many "mom and pop" shop tenants—have been withdrawn or sharply reduced, preventing new entrepreneurial store openings and forcing some existing shop tenants out of business, Smith says. "Most of the recent closures have been for the larger box and junior anchor tenants."

Prime retail neighborhoods such as Union Street for example, have experienced several store closings. Prominent stores that have enjoyed record sales in the past include many international luxury brands, but as these brands have become ubiquitous locally, and international tourism and consumer spending has fallen, it is likely landlords will lack the ability to increase rents in 2009, a CBRE outlook says.

While retail vacancy across the Bay Area started 2009 within the 2% to 5% range, CBRE anticipates a significant upward swing in all submarkets moving forward through the year. "However, due to the barriers to entry in the local retail submarkets, there was limited development over the course of the last cycle," Smiths notes, adding that with limited additions of supply, the Bay Area should fare much better than other national markets on a relative basis.

Smith expects vacancy rates to remain in the mid-to-high single digits. "We believe 2009 will be a challenging year for retail landlords, who will face increasing vacancies and will be unable to increase rents," he says. "Instead, in an effort to hold asking rental rates, landlords may end up accepting lower effective rents by offering larger concession packages."

On a positive note, the city has many high-rise residential deliveries that may buoy retail sales into 2009 as resident density increases. There are more than 4,500 residential units currently under construction, with another 12,000 units approved, and 35,900 units under review.

Approximately 188,000 square feet of retail space is under construction including Trinity Place, a 60,000-square-foot 100% pre-leased facility. In the past four quarters, only 86,360 square feet of retail has been built in San Francisco, according to the CBRE outlook. Construction completions include 27,000 square feet of storefront retail on San Francisco Avenue, and 11,400 square feet on Geneva Avenue.

Significant leases recently include Ross absorbing 47,000 square feet, Ford Motor moving into 36,000 square feet, Sports Basement signing to 93,500 square feet, and the Sports Authority moving into 50,007 square feet.