EDITORIAL from Dan Mihalovich, Principal of Mihalovich Partners and Founder of The Space Place

If you're in search of intelligent life in the brokerage community…please enjoy this Editorial with my compliments. And, here are the last 10 years of pearls of wisdom:

655 Montgomery Street, Suite 1490
San Francisco, CA 94111
Office: 415-434-2820
Cell: 415-999-9244
Twitter: @MihalovichCRE
Skype: danmihalovich
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San Francisco, San Mateo County Office Markets Negative Growth, East Bay Parties On. Yes, Markets Work.

3Q San Francisco saw ~275,000 square feet of net NEGATIVE absorption of space. A single quarter doesn’t make a “trend”, of course, but negative growth in the face of every bullish landlord and landlord broker will start the palpitations going. Negative, or at least slowed growth in the City makes perfect sense considering the function of any economic marketplace: When demand is on fire for so long in the City, virtually every development and renovation site gets lit up, cranes appear everywhere and all of sudden anyone/everyone who has the flexibility to consider the far less expensive suburbs takes a hike from the City. So, here we are!

Deal flow has declined 5 straight quarters to 2008 levels. This coincides with deliveries of new space and ever-growing buildings under construction (over 5M sf is under construction). The amount of space “available” increased from 11.3M square feet last quarter to 11.6M sf in Q3. Asking rental rates, always a laggard in a declining market – continued to rise, in spite of the negative activity cited above (during the declining markets of the Dot-Bomb, landlords asked $50 and took $30).

Keep in mind that during the height of vacancies at 20M sf in 2009, the amount of sublease space on the market was nearly double its current 1.3M sf. As we see more sublease space coming on the market, it will create more competition for landlord’s direct space and begin to drive rental rates south. Be patient, if possible, tenants.

Tenants who want to dodge bullets (since current market conditions are a killer for most traditional companies) have these options. Mihalovich Partners negotiates all of these types of transactions:

  • Renew short-term if the current landlord is willing to provide discounted rates to keep you in place;
  • Relocate to short-term sublease space. Short-term direct space may also be discounted, if the space is optioned to another party at the conclusion of the term;
  • Relocate out of the City;
  • Tenants whose leases do not expire for another 2-3 years and are convinced that the current “bubble” will continue to expand – may want to explore a blend-and-extend renewal. While these potentially premature transactions generate great fees for the brokers in the deal, they are rife with risk for the tenant and should be meticulously considered in all respects. Will market rates continue to rise? Why? How do you know? Will your company remain competitive if you lock in accelerated rental rates while your competition awaits a market decline?

3Q San Mateo County went into net NEGATIVE absorption of space, a “growth” loss of ~70,000 square feet. Asking rates for sublease space declined, while direct space asking rates were flat versus Q2. Just under 6M sq ft available.

3Q East Bay (Contra Costa & Alameda Counties) continued to party with 850,000 sf of net absorption. Deal flow dropped significantly below the previous quarter. With rent spikes and rapidly declining options in markets like Oakland and Emeryville, we could be seeing a market top. Let’s put it this way: How many more tenants can afford to pay $75-$85+ in San Francisco – or are willing to pay $50 to be in Oakland? Tenants are a creative bunch and have SO MANY other options. The market is literally paying tenants to implement those options as we speak. Call us to meet and exchange ideas.

Checking Vital Signs: Do You Want To Buy Tech, Or Short It? What Impact On Office Markets?

Tech has clearly been the driving demand factor in office markets around the country. Where would Bay Area office markets be without tech?! And the main driver – the blood supply behind tech demand? Hint: It’s not corporate profits. It’s venture capital. So, where are we in the cycle considering the flow of capital? If the flow of VC slows, crawls or evaporates, will the office markets collapse --- and if such a scenario is even likely in the foreseeable future, WHEN might this occur? Do you want to be “long” tech, or “short” it? We put this question to a local brainbox – a venture capitalist whose tenured company has more than $1B invested in public and private tech. We agreed not to disclose the VC’s name, but here’s a direct quote:

“I think VCs are beginning to get more cautious. This was a good article from the LA Times: 'The Silicon Valley Investment Bubble Start to Deflate'

The late stage venture market has gotten ridiculous in my opinion. While there are real companies creating real value that could sustain their valuation in the public markets (Uber), there are countless companies with inflated valuations, dubious unit economics and questionable long term models (Dropbox). There are also many companies that I believe will be very cyclical and will not survive a downturn (many of the on-demand “Uber for X industry” companies like dry cleaning/ wash and fold, food delivery, etc). I think these late stage VC-backed companies will begin to be hurt soon. Their employees and investors need liquidity and the valuations will not work in the public markets. The private money spigot is beginning to slow.

There is still value to be had earlier stage, and I think that is driving many traditionally late stage investors to push earlier and earlier. At some point the same dilemma will flow to the early rounds as well though, likely sooner rather than later (1-2 years).

I think public tech is quite reasonable. The Russell Growth index is trading at 27x 2016 earnings for 30% earnings growth, and the S&P Tech index is trading at 15x. Not stretched by historical standards. I think the valuation issues are primarily limited to the private markets, companies like Salesforce should be OK in my view (Salesforce has much better cash flow than earnings given the biz model, so the company is not as expensive as it optically appears on earnings. Certainly could correct downwards but I do not think there is a disastrous scenario in the cards there).

So, back to what ends the late stage VC party?

  • Pre- IPO valuations get too high, and late stage companies face inability to continue to raise money privately or publicly. As a whole public market tech will be OK in this scenario, and maybe benefit as money comes back to old tech. VC LPs lose money in this scenario, but I do not think Main Street gets hurt too badly. This is a mini-cycle/rotation, not necessarily a blowup. Worrisome for late stage VC firms, less worrisome from my seat. This will happen at some point, guaranteed. I think you get scared once tech IPOs stop working and start to rotate to old tech. This could be happening now. Bad for the Bay Area and CRE, not sure there is more widespread systemic risk though.
  • Rates come up and money rotates from growth to value.
    • Lots of traditionally public money has gone to the venture markets given a paucity of growth in the public markets and a low rate environment that allows investors to wait to get paid.
    • I have been considering the case that rates do not ever go back up, at least not to where they were. I think it at least deserves some consideration.
    • The biggest driver to rates is GDP growth. The biggest driver to GDP growth is workforce growth.
      • The point here I am still considering is that perhaps tech will eventually cause GDP growth to become uncoupled from workforce growth. I think this thought is likely wrong, as too much of global production is tied 1:1 to population growth.
    • Globally, the population, and thus workforce is peaking. It is getting harder to grow global GDP.
    • While the US population is still growing, rates will not go up here if global GDP does not accelerate and rates do not go up globally.
    • Therefore, we could be in a prolonged (100 years+ - it takes a long time to reverse demographic trends) period of slow global GDP growth and thus low rates.
      • Moreover, as the growth cycle faces deflationary pressure due to demographics - monetary policy loses its efficacy and Keynesian economics become less relevant (I think this is already happening).
    • This will cause investors to continue to favor the increasingly rare growth opportunities.
    • We could have mini cycles within this environment, but I am beginning to believe this will be the long term trend.
    • I know this is a “this time is different” argument, which I hate. This is the main thing keeping me from subscribing to this argument.
  • A broader geopolitical/macro related event that broadly hurts financial markets - in this case we are all screwed anyways. This will happen at some point. The risk of the “black swan” event is always there.
  • I do not think the IPO data holds true for tech. From my data the 2013, 2014, and 2015 tech IPO classes all have positive average returns. The returns have gotten worse though, and the IPO pipeline has definitely slowed or stopped.
  • Also worrisome is that it is hard to make money in these IPOs unless you get a large allocation on the deal, which is difficult. While the companies are trading well from their IPO price, the returns from the first day of trading on are much worse (returns all made in the first day of trading). This is pushing more public money private (to try to secure larger positions for upcoming deals), which is having the unintended consequence of allowing the companies to stay private longer. This is slowing now that late stage valuations have gotten so stretched.”

3Q 2015 Top Leasing Transactions

Tenant Address Sq Ft
Pinterest 505 Brannan 153,000
Tea Leaf Technology 505 Howard 84,000
Apple 235 Second 76,000
Cypress 1 California 64,000
Docker 144 Townsend 45,000

Tenant Address Sq Ft
Survey Monkey 3050 S. Delaware, San Mateo 210,000
- 1700 Seaport, Redwood City 34,000
TeraRecon 4000 E. 3rd Ave., Foster City 54,000
Coherus Biosciences 333 Twin Dolphin, Redwood City 28,000
Aimmune Therapeudics 8000 Marina Blvd, Brisbane 26,000

EAST BAY COUNTIES (Alameda/Contra Costa)
Tenant Address Sq Ft
Brown & Toland 1221 Broadway, Oakland 60,000
Aduro Biotech 740 Heinz Ave., Berkeley 56,000
Pandora 2100 Franklin, Oakland 25,000
Pandora 2101 Webster, Oakland 24,000
CoreLogic 555 – 12th St, Oakland 24,000

If Your Lease Will Expire Within The Next Three Years…

or if there is another compelling reason to discuss your firm's office leasing situation, please call us. For qualified tenants, we offer the following pre-contract services:

  • Free preliminary office lease and operating expense review;
  • Free consultation to discuss project management, Team formation and project schedule;
  • Market surveys and our specific tenant-driven leasing recommendations ; and
  • Assistance in selection and coordination of all Team members throughout planning and negotiation phases.

Vacancy Rates: Are Your Options Fading?

Tenants should watch carefully to detect how and to what extent your field of options changes. Which size blocks of space are getting leased? Discussing vacancy and absorption rates can be confusing to some. What language makes sense to tenants? Tenants ask, "Tell me about my specific options. How many choices do I have?" Are your options fading, as a result of leasing activity? Review the chart, below, and let's discuss.

HOW MANY BLOCKS OF SPACE ARE AVAILABLE FOR YOU? San Francisco County San Mateo County Santa Clara County East Bay Counties
Q2’15 Q3’15
5,000–9,999 sq. ft. 240 241 Call us for more info
▼ 0
10,000–19,999 136 130
▼ 5%
20,000–29,999 44 40
▼ 10%
30,000–39,999 25 20
▼ 25%
40,000–49,999 15 13
▼ 15%
50,000+ 40 38
▼ 5%

You can request a free space survey, containing all direct and sublease space meeting your specific requirements. We can also provide building photographs, floor plans, leasing histories and more. To discuss your space needs in person, call 415-434-2820 or email

Five Brokerage Firms / 12M SqFt of Space / 430 Buildings Listed: How Do You Spell “Conflict of Interest”?

When we approach a prospective new tenant client, we tell them that we NEVER represent landlords, always avoiding this conflict of interest. So, which of our competitors—leasing firms—do the most landlord representation? Who’s marketing 75% of the space in San Francisco?

The top companies controlling the most space available are NOT landlords….Rather, they are office leasing brokerage firms acting with the landlord’s interest in mind. They are:

Cushman & Wakefield
Newmark, Cornish & Carey

These brokerage firms control over 75% of all listings and are beholden to more than 400 local landlords, paid to drive up rental rates and drive down concessions for tenants.

Since their allegiance is committed to so many landlords, how can they possibly represent YOUR interests—the tenant’s interests—objectively and aggressively?

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