80% of S.F. Dot-Coms Seen in Danger Study says shakeout will empty offices

Verne Kopytoff, Chronicle Staff Writer Thursday, March 29, 2001

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Nearly 80 percent of existing Internet companies in San Francisco are expected to die during the next year, flooding the real estate market with enough empty offices to cover 88 football fields.

So says a study released yesterday by Rosen Consulting, a real estate and economic research firm in Berkeley. The news is particularly grim for the region's commercial real estate market, which was fueled by the Bay Area's once-soaring Internet industry and is now retreating in step with the dot-com downturn.

The analysis by Rosen shows office rents in San Francisco already are declining dramatically because of dot-com turbulence. That is coupled with increasing office vacancy rates, which have hit a four-year high in some instances, the study says.

"Most of the pure-play Internet companies are not going to survive," said Kenneth Rosen, chairman of Rosen Consulting and a business professor at the University of California at Berkeley. "We think that will produce a lot of sublet space in the Multimedia Gulch, and there will be more coming in the future."

As it stands, vacancy rates in the South of Market neighborhood, long popular with Internet companies, have shot up almost vertically from just a few months ago. Vacancies of so-called Class B space, much of it converted warehouses, have gone from 2.3 percent at the end of 2000 to 16.5 percent today, according to the Rosen study.

Rents have fallen in tandem. Those Class B offices, which rented for an average of $72.96 per square foot at the end of 2000, are now going for $55.32 per square foot.

Even the most luxurious towers in San Francisco's Financial District are being hit. Rents there, in so-called Class A offices, have declined from $80. 16 per square foot at the end of 2000 to $74.16 per square foot today, the first quarter-to-quarter drop since late 1998, the Rosen study found.

However, Rosen said the highest-priced offices will probably survive the dot-com retrenchment better than any others. They were never very popular with Internet companies and therefore are not losing as many tenants.

In all, Rosen predicted 4 million square feet of office space will flood the market during the next year because of dot-com bankruptcies. The effect of those vacancies will be compounded by an additional 6 million square feet of newly built and renovated offices, the study said, most of which were planned when it seemed the economy would soar forever.

San Francisco has about 70 million square feet of offices. The new space therefore represents a substantial addition, but not necessarily an overwhelming one, Rosen said.

Despite the falling rents, many landlords are still in relatively good shape, the study said. Prices today in most cases are higher than they were a year ago, and landlords are getting an 8 to 10 percent return annually on their investment.

Rosen Consulting based some of its conclusions on data provided to it by Cushman & Wakefield, a national commercial real estate firm in New York. However, Cushman & Wakefield disavowed the report's findings in a statement yesterday, saying it "does not agree with the conclusions" and asking not to be credited with this "premature report."

The shaky online environment has prompted influential Merrill Lynch analyst Henry Blodget to ratchet up his pessimistic outlook for Web stocks. Earlier this month, he predicted that 95 percent of Web stocks will disappear through business failure or consolidation instead of 75 percent, as he previously forecast.

In another survey released yesterday, Webmergers, a San Francisco company that tracks dot-com closures and acquisitions, said at least 70 Internet companies with roughly more than $1 million in venture funding have closed in the Bay Area since January 2000. They include 38 companies in San Francisco, nine in the East Bay and 23 in Silicon Valley.

Daniel Klein, an economics professor at Santa Clara University, said that the closing of Web companies and falling office rental rates are probably not going to cause serious economic hardship in San Francisco. He said the lower rental rates encourage the creation of new businesses and that people who are fired from Internet companies seem to be finding new jobs relatively quickly.

"These offices could be transformed into housing, which cities really need, " Klein said.

http://www.sfgate.com/cgi-bin/article.cgi?file=/chronicle/archive/2001/03/29/BU80662.DTL&type=business

-- Carl Jenkins (somewherepress@aol.com), March 29, 2001