The popularity of office markets with high concentrations of technology firms has caused a conundrum for real estate investors, as the cost of going in on a sure thing keeps going up. Rents have spiked in cities with the most leasing activity by technology tenants, with the most in-demand markets, including Menlo Park in San Francisco and the Palo Alto sub-market, now have rents averaging more than $100 per sq. ft., according to a recent report from real estate services firm JLL. A space of just 5,000 sq. ft. in these markets can cost more than $500,000 per year to lease.
While developers have rushed to build dozens of new office towers in these hot markets, there’s still no threat of overbuilding, according to Julia Georgules, vice president and director of U.S. office research for JLL. The San Francisco/Silicon Valley markets will likely be the most resilient tech markets for years to come, she notes. “Fundamentally, the numbers may look high, but again these developments are in demand and fulfill the desired workspace trends in the market.”
There has been talk earlier this year that a significant slowdown in venture capital funding might have an impact on leasing by technology firms, but property fundamentals haven’t borne out this threat in the top markets. Steven Kammerer, senior vice president and leader of JLL’s technology group, says venture capital dollars are still moving. Most of these firms are looking to fund the next big thing, and many of the leading edge innovations will likely see more funding in the quarters to come, including virtual reality, self-driving cars, battery innovations and other hardware developments, he says.
Up to this point, tech companies have consistently been the main tenants seeking big-block space, and during the past four quarters, 63.4 percent of tech companies leasing 20,000 sq. ft. of office space or more were in growth mode compared to the overall U.S. rate of 48.9 percent, according to the JLL report.
Where should investors look
For those investors priced out of the top markets, however, there are still some locations that could lead to attractive yields, Georgules says. The JLL report lists about two dozen markets that are currently considered “low cost, higher industry opportunity.” These include Raleigh-Durham, N.C., Atlanta, Northern Virginia and Chicago, where real estate costs and talent are still relatively affordable, and also have the elements in place to foster both start-up and large tech company growth, Georgules says.
The jumps in occupancy for technology firms have been visible in those four markets. Raleigh-Durham, for example, has registered steady job growth due to its tech sector connections to the top companies, and in Atlanta, Georgia Tech’s Technology Square continues to be a magnet for software developers, according to a second quarter report from real estate services firm Savills Studley. In Chicago, much of the city’s rapid office recovery has been due to demand from technology and creatives services firms in River North and Fulton Market areas, according to Savills Studley. Chicago’s average office rent of $36 per sq. ft. is the highest of the four markets mentioned above, but is much lower than the average rent for the top 10 tech markets at $82.40 per sq. ft.
“Because these places could foster industry growth at a lower cost, they could be viewed by investors as the next place to invest—the next generation of tech markets,” says Georgules. “Getting in earlier could lead to greater yields, assuming the industry continues to charge ahead at this robust pace. There is an increased appetite in secondary markets from investors; technology concentration is a good barometer for the strength of a market, since it's driving so much economic growth across sectors.”