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Suburban office campuses gaining appeal in social distancing age


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Suburban office campuses gaining appeal in social distancing age

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The age of social distancing may also come to be known as the beginning of a suburban revival in the U.S. office market.

In California's Bay Area, the epicenter of high tech in the U.S. and home to some of the nation's priciest office real estate, suburban Silicon Valley may bounce back before San Francisco, its urban sister to the north. Experts said the Silicon Valley office market could even benefit from the economic dislocation. The relative appeal of the two markets, which share similar tenant orientations and are separated only by a short drive down the San Francisco peninsula, illustrates shifting real estate priorities in the age of the coronavirus and hints at potential long-term changes in office demand.

"In the debate of the urban high-rise versus the suburban campus, the suburban campus has got to be in favor now because of the coronavirus, and that's found in the Valley readily as compared to in the city," said Jesse Gundersheim, director of market analytics for the San Francisco Bay Area at the commercial real estate data firm CoStar.

The renewed interest in suburban office product flies in the face of recent trends. Over the last decade, San Francisco's glitzy skyline, restaurants and nightlife have drawn young startups and tech workers out of Silicon Valley. Low and sprawling, with trees and ample parking, Silicon Valley offices can appear more beige than space age akin to the common suburban office product in second-tier cities that has fallen so out of favor with investors in recent years.

But Silicon Valley is not the typical suburban market. It still attracts the lion's share of venture capital investment in the U.S., and the tech, biotech and life science companies that call it home are some of the most sought-after employers in the U.S. Those companies have spent huge sums building out real estate accommodations over the last decade-plus to ensure on-site employees are comfortable. The campuses of tech giants like Google are as advanced and amenity-rich as any 60-story tower in San Francisco.

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Since the pandemic hit in March, many Bay Area tech companies have implemented remote work policies. Some, like Twitter Inc. and Square Inc. in San Francisco and Facebook Inc. in Silicon Valley, said they would allow employees to work from home on a permanent basis. The move to remote work marks a notable shift; Bay Area tech companies pioneered the collaborative, informal work environments that are now so popular among millennial workers. Many highly skilled white collar employees want to work in the buildings where they can eat three square meals, work out and get a haircut, and the big tech companies are arguably superior at curating healthy work environments, experts said.

Eyes on subleasing

It remains to be seen how tech companies' expanded remote work policies and social distancing requirements will impact office demand long term in San Francisco and Silicon Valley. Some say increased space needs to accommodate social distancing will offset the lower demand from remote working, but visibility at present is low. Many large tech firms own as much real estate as they lease. And office leases generally are longer term, often seven years or more, so there is less churn to shed light on market fundamentals.

But so far the Silicon Valley market appears to be holding up better than San Francisco. All eyes are on sublease data, which can reveal cracks in the demand picture and, by extension, where rent levels and valuations may be heading. Sublease availability in Silicon Valley stood at 2.69% as of June 21, having risen just 34 basis points since the onset of social distancing in March, according to Newmark Knight Frank, a commercial real estate advisory company.

Preliminary second-quarter data for San Francisco's office market, meanwhile, show that 6.1% of the market's inventory is available for sublease. Total availability in the city, including already vacant space as well as sublease space, is 14.2%.

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Silicon Valley's office market was said to be poaching some of San Francisco's tenant base even before the pandemic set it, as some looked to exit the city's tight, increasingly pricey grid. But Michael Saign, vice chairman of Newmark Knight Frank's San Jose office, attributed Silicon Valley's substantially lower sublease availability largely to the market's significant research and development orientation. Of the 212 million square foot office market, 124 million square feet is "flex" R&D space, with both office and lab components. Flex product benefits from a steadier level of demand, and work in fields that utilize the space is less amenable to remote, virtual arrangements.

"We are definitely not seeing as many younger companies just kind of go up in smoke, nor are we seeing any large household names putting any significant space on the market," Saign said of the Silicon Valley market.

New priorities

Saign and other Silicon Valley observers described subdued market conditions at present, with many players in a holding pattern. Gregg von Thaden, a principal at the commercial real estate firm Avison Young and managing director of its Silicon Valley office, identified a distinct shift in prospective lessees' priorities since March. Being close to public transit is not as high a priority, and self-contained sites are now receiving more interest. He expects tenants will continue to show a preference for campuses to limit the impact of future outbreaks.

"You still have the benefit of the amenities ... but just being able to control your situation, I think, will become more important," he said.

Jennifer Vaux, vice president of research for Northern California at Avison Young, said tech tenants' space requirements in Silicon Valley are likely to drift up to 300 feet per person, on average, from 125 feet as a result of new social distancing measures, which she said could ultimately offset any weakening in demand as a result of more employees working remotely.

Vaux ultimately was optimistic about a swift bounceback in Silicon Valley's office market, with minimal long-term changes in tech tenants' real estate strategies. Leasing overall has slowed in the market but is not dead, she said.

"I think Q2 is really going to be the most telling for us and what direction things are going," she said.

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