Bottom?

Have we hit bottom in the pricing of San Francisco office assets?  Maybe. 
 
The historical measures by which office buildings were valued, a function of capitalized net operating income, doesn’t apply to assets having large vacancy and limited weighted average lease term (“WALT”).  These assets are trading at a simple cost/sf metric.  Investors take a long-term view of the investment, betting the value for San Francisco office will, ultimately, recover.  They may or may not use debt to finance the acquisition – where there is limited occupancy, they may not be able to secure debt.
 
To determine the right price/sf, investors look to the quality of the building, its historical lease performance, its location, projected rental economics, necessary capital spending, and replacement cost (e.g., what it would cost to build new today).  Well located, vacancy challenged, older office inventory has generally been trading in the low to mid $200s/sf; values which are more than 70% less than they were prior to the pandemic.
 
While these values represent historical lows, depending on the asset, they don’t necessarily lead to success.  The investor is still making a bet on office amidst the backdrop of a market that is ~40% vacant.  Counterintuitively, the more assets that trade at these low levels, the more competitive the market becomes, making it harder to win deals based on offering the best rental economics.
 
We may be at a relative bottom, but the path forward for San Francisco office is still not clear.  Some assets may no longer have any value.  Only time will tell if these bets pay off for the investors.  In the meantime, occupiers will continue to enjoy the benefits of better deal terms.