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WESTERN SNAPSHOT, JUNE 2006
Silicon Valley Industrial Market
Silicon Valley’s available inventory of research and development (R&D) properties declined for the ninth consecutive quarter, marking a continuation of the slow but measurable comeback from the dot-com bust and post-September 11th era at the beginning of the decade. There were 35 million square feet of R&D buildings available for lease in the Valley at the end of the first quarter — a 20.73 percent availability — compared with the high of 45.65 million square feet at the end of first quarter 2004, which amounted to 27 percent availability. Sublease space as a percentage of available inventory is closer to historical standards and has stabilized at 18.54 percent, which is down significantly from a peak of 45.38 percent at the end of third quarter 2001. Expressed in vacancy terms, the R&D market ended the first quarter at close to 21 percent. While higher than historical averages in the Valley, it is a significant change and improvement from the all-time high hit during fourth quarter 2003 when the vacancy factor reached 27.07 percent.
Gross absorption for the first quarter was a healthy 4 million square feet, compared with 3.9 million square feet during first quarter 2005. There were 206 transactions in total, consisting of 184 transactions below 50,000 square feet, 17 transactions between 50,000 and 100,000 square feet, four transactions between 100,000 and 200,000 square feet and one transaction exceeding 200,000 square feet. For the quarter, the average size of a transaction was 19,463 square feet, and the average lease term was 45 months. Average time on the market for available space in the first quarter was 2.2 years.
In a tell-tale sign of a recovering market, users reoccupied and removed from the market 10 spaces totaling 296,802 square feet during the first quarter. A significant 37 user purchases contributed 828,923 square feet to the gross absorption total. Average time on the market for absorbed space increased slightly to 1.5 years. Sunnyvale ended the first quarter with the highest gross absorption of 817,667 square feet, and Fremont ended the first quarter with the lowest gross absorption of 210,189 square feet.
After eight quarters of inconsistent net absorption, the Silicon Valley market achieved back-to-back strong quarters, finishing up slightly at the end of the first quarter with 836,312 square feet of net absorbed space. Milpitas ended the quarter with the highest net absorption of 518,466 square feet, and San Jose ended the quarter with the lowest net absorption of negative 191,737 square feet.
Most of the space absorption is coming from the usual mix of Silicon Valley companies and industries. However, a noteworthy trend from the past 3 years that is reducing available space, albeit incrementally, is the significant amount of property sales in which R&D and industrial properties are being converted to residential use. Homebuilders have acquired land and removed at least 3.5 million square feet of older R&D and industrial properties from inventory, and an additional estimated 10 million square feet of buildings have been identified for possible conversion. Some of these properties are in various stages of negotiation and entitlement for residential use.
Silicon Valley average effective rents ended the first quarter at 93 cents per square foot per month, down slightly from the previous quarter’s 94 cents per square foot per month. Menlo Park/Palo Alto averaged the highest rent of the quarter at $1.95 per square foot NNN, and San Jose experienced the lowest average rent of the quarter at 74 cents per square foot NNN. Average tenant improvements decreased in the first quarter to $5.60 per square foot. The average sale price of buildings in Silicon Valley increased during the first quarter to $210 per square foot, reflecting significant new condominium sales.
Construction of new commercial space in recent years has been limited to condominium developments. During the first quarter, there were three new construction projects completed totaling 406,760 square feet, and nearly all of it was commercial condos. Gilbane Properties completed its Sunnyvale condominium project on Kifer Road, MPS completed its San Jose condominium project on Qume Road and Venture Corporation completed its Fremont condominium project on Corporate Way. Hellyer Commons LLC has one condominium project totaling 97,800 square feet currently under construction on Hellyer Avenue in San Jose. Construction of commercial condominium projects will continue but at a slower pace.
The job market has improved in recent years. In fact, in 2005, Silicon Valley employers added more jobs than they eliminated for the first time since 2001, and this bodes well for office and R&D leasing markets. As such, for the remainder of this year, the forecast is for available inventory to decline at a moderate pace. In terms of demand, gross absorption will continue to be average. Net absorption will continue to be positive. Quality space will continue to be the product of choice. Demand will continue to exceed supply of available investment-grade product. The stabilization of rents should continue overall, with more noticeable increases likely to occur in Class A buildings. Menlo Park/Palo Alto and the West Valley comprising Campbell/Los Gatos /Cupertino will experience property appreciation.
Sutton Roley is the president and CEO of CPS/CORFAC International in Santa Clara, California.
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