SF Office Vacancy Could Rise as Pre-Pandemic Leases Expire

San Francisco’s office vacancy rate has hit new highs repeatedly this year with companies vacating or downsizing as their leases roll over. But pre-pandemic leases still account for about two-thirds of San Francisco’s office square footage, according to data provided to TRD from brokerage Avison Young, indicating that there remains plenty of turnover ahead.

Of the active leases signed by March 10, 2020 — the point when the social and economic impact of the pandemic started — 44 percent of the leases had yet to expire by the end of the second quarter this year, which accounts for 67.2 percent of total square footage in San Francisco, according to Avison Young.

Dina Gouveia, the firm’s market intelligence manager for the West Region, said she expects most of the current occupiers with expiring leases to renew with short-term leases. Prior to Covid, the average lease term was six years, and that has now dropped to 4.5 years, according to Avison Young data.

“Rental rates could drop further and both tenant and landlord want to leave room for adjustments,” she said via email. “Further, tenants are still working out the reset of layoffs and true occupancy needs as companies determine if they will strongly enforce remote versus non-remote work.”

Landlords have been proactive in starting negotiations with their tenants well ahead of lease expiration dates, Gouveia added.

“It is not an uncommon strategy in this type of market environment to induce these types of discussions early on the landlord side to stabilize assets,” she said via email. “The symptomatic effect of the pandemic with WFH and remote work has pushed these efforts further than before even as the usability of space is still being worked out by the tenant internally.”

Despite the high number of vacancies already on the market, Avison Young analysts said they are still bullish on San Francisco, in part because the city has recovered from economic downturns so many times in the past and also because several big tech companies have made return to work policies that may finally stick this fall. New AI leases may take up large blocks of space and TikTok is rumored to be looking at an SF office, according to Louis Thibault, senior analyst at Avison Young, but at this point it’s still a “wait and see game.”

“There’s a common trend of companies asking us what everyone else is doing, so we are now waiting for market movers over 50,000 square feet to drive leasing momentum,” he said via email.

The biggest factors for AI and other startups will be higher interest rates and less VC funding, Thibault said, adding that he wouldn’t be surprised if market hesitancy continued until after the 2024 election cycle.

“Occupiers are waiting for the market to ‘bottom-out’ and with high vacancy and distressed office buildings, they hold the cards in this market,” he said. “I would pay close attention to an uptick in VC funding and lower interest rates as sure signs that the market has reached a turning point and people are ready to lease again.”