Peninsula office sales drop 94% in Q4, per Kidder Mathews

Despite lower demand, construction pipeline remains active

San Francisco office buildings
(Getty; Illustration by The Real Deal)

Peninsula office sales plummeted in the fourth quarter of 2022, according to a new report by brokerage Kidder Mathews.

The amount of spaced traded fell 94 percent, from 1.5 million square feet to 99,000 square feet year-over-year. The largest sale of the quarter was a 24,000-square-foot office complex in San Carlos the traded for $22 million.

Kidder Mathews' James Lees

Kidder Mathews’ James Lees

“The big thing in this market is the lack of demand, and a lot of that happened with people’s desire to work from home,” James Lees from Kidder’s Redwood City office said. “There’s a lot of employers that are not ready to commit to a sizable transaction. … They can’t really commit to a long term, because they don’t want to commit to anything if they don’t know how many people are returning to the office.”

Another reason sales have stalled is interest rates going up 200 to 300 basis points, making deals more expensive for investors using credit. Cap increases and “buying into an upstream” with rents being down have also contributed to the slowdown.

“We’re still trying to deal with inflation and we’re going to have more (interest rate) increases; that uncertainty doesn’t help,” Lees said. “We are seeing a lot of layoffs in the tech sector and people are cutting down their sizes. The other thing is venture capital is not putting a lot of money in new seed companies, and that’s what has given us a lot of growth and given us some of the big companies that we have. A lot of uncertainty and when you put all that together that’s why we’re not seeing a lot of sales.”

Lees believes tech companies will return to the market as they innovate new products.

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“Technology is always going to be a part of us; we might see AI companies forming,” he said. “Innovation will bring on the next wave of tenants, and I think a large part of that will be technology.”

While sales are down, the pipeline for new office buildings remains active. There is 218,000 square feet of space expected for delivery in 2023, and a lot of that space is pre-committed. Going forward, “there is not going to be a lot of construction next year,” according to the report. Developers are most likely only going to move forward with a project if they have a significant pre-lease commitment.

“That’s the way it used to be and that’s a good thing,” Lees said. “But when the market was so hot and vacancy was so low, we just built product. Now, because of the changing climate, you won’t see that.”

One positive trend for the Peninsula market has been a low increase of subleases, which has stayed around 3 percent. Having a lot of subleases in the market, along with all the vacancies, “that’s a recipe for disaster,” Lees said.

Ultimately, Lees believes that the market will turn around due to its abundance of talent.

“The future of this market is going to be good because we have a large collection of attorneys from Redwood City to Palo Alto, we still have a lot of venture capitalist companies, and a life science community that has been very hot; we’ve seen 3 million square feet of conversion to life science.”