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San Francisco office sales heading for '07 peak

SAN FRANCISCO -- Google Inc.’s purchase of a San Francisco waterfront property underscores the rising demand for commercial real estate in the city, with office building sales on pace for their strongest year since the market’s peak.

Google’s $65 million acquisition brought San Francisco office sales through last week to $3.67 billion, up almost fourfold from the same time a year earlier and headed for the highest annual tally since $8.97 billion in 2007, according to Real Capital Analytics Inc.

Blackstone Group LP (NYSE: BX) this month completed a $588 million deal for a 49 percent stake in the One Market Plaza complex, the biggest transaction so far in 2013.

Technology companies are fueling the surge in demand as office vacancy shrinks, even with new projects rising, said Grant Lammersen, a broker at Cushman & Wakefield Inc. who represented the sellers in Google’s deal.

Buyers are seeking to expand holdings in a market where prime rents jumped 9.6 percent in the second quarter from a year earlier, more than triple the U.S. average, according to Cushman.

“There’s seemingly insatiable demand in San Francisco,” Ben Carlos Thypin, director of research analysis at New York-based Real Capital, said. “Institutional investors are buying the highest-quality properties they can get their hands on.”

Google, owner of the world’s largest search engine, paid about $738 a square foot for 188 The Embarcadero, a 28-year-old building that hasn’t been renovated and is about two-thirds empty, two people with knowledge of the deal said last week.

Blackstone’s purchase at One Market Plaza, at $823 a square foot, is the highest since it sold the same property to Morgan Stanley for a record $1,001 a square foot in 2007, according to Real Capital.

Ocean liner

It’s not clear what Mountain View, Calif.-based Google (Nasdaq: GOOG) plans to do with the eight-story Embarcadero property, acquired from Ares Management LP (NYSE: ARES) and USAA Real Estate Co.

The building was designed to resemble an ocean liner and is located on the bayside boulevard at Howard Street, within view of the landmark Ferry Building, owned by Blackstone, and about two blocks from the Internet company’s main offices in the city.

Google also last week agreed to lease 250,000 square feet at Spear Tower, which at 42 stories is the tallest structure in the One Market complex.

The maker of the Android operating system will take floors two through 16, a person with knowledge of the terms said.

‘Good neighbor’

“We are excited to expand in San Francisco, and we will continue to work hard to be a good neighbor in the communities where we work and live,” Caitlin Adair, a Google spokeswoman, said on July 11. She confirmed the purchase and lease transactions but declined to give details.

The Embarcadero building and One Market Plaza were part of a group of properties that Morgan Stanley (NYSE: MS) acquired from Blackstone in a June 2007 deal financed with commercial mortgage-backed securities (CMBSs) that marked the previous real estate peak.

The fall of Lehman Brothers Holdings Inc. the following year deepened the U.S. financial crisis and sent real estate values plunging.

AREA Property Partners, since acquired by Ares, took over the Embarcadero office from Morgan Stanley upon the default of a mezzanine loan and brought in USAA as co-owner, according to Real Capital.

How much they paid is “not really clear” since it wasn’t a standard transaction, Thypin said.

Cassidy Turley/BT Commercial said in a 2010 report that 188 The Embarcadero was valued at $323 a square foot when Morgan Stanley lost control of the building.

Potential buyers

The property attracted suitors including pension advisers and high-net-worth individuals from the United States, Asia and Europe that viewed vacancies in the building as an opportunity amid San Francisco’s social-media and mobile-application boom, Cushman’s Lammersen said.

“They didn’t have to take the leasing risk and could get in right now,” he said.

Leasing from the technology industry has pushed San Francisco office occupancies to an all-time high of almost 71 million square feet, according to CBRE Group Inc. (NYSE: CBG).

Rental agreements for 1.4 million square feet were signed in the six months through June, exceeding the total for 2013, CBRE data show.

Fierce investor interest, and a reliance on technology companies whose growth projections proved false in the late 1990s Internet boom, may yet lead to a slowdown in demand and rents, said Dan Fasulo, managing director at Real Capital.

Getting nervous

“As far as fundamentals go, San Francisco has some of the best, but we’re getting close to the point where I’m starting to get nervous,” Fasulo said in a phone interview. “It feels like this tech venture has run for a while.”

For now, developers are planning to meet the demand with 4.4 million square feet of projects, including Boston Properties Inc.’s(NYSE: BXP) $1.13 billion headquarters tower for Salesforce.com Inc. (NYSE: CRM) that will be the city’s tallest building, at 1,070 feet, and high-rises by Kilroy Realty Corp. (NYSE: KRC) and Tishman Speyer Properties LP. All are in the south financial district.

More than 80 percent of the space expected to open in the next 12 months has already been leased, according to CBRE.

Job growth in the San Francisco area continued for the 48th straight month in June with no sign of abating, California state labor data show.

“Along with Silicon Valley, San Francisco has become a high-tech innovation capital,” Joe Schoendorf, a partner at venture-capital firm Accel Partners in Palo Alto, Calif., said following Google’s Embarcadero purchase.

“I suspect it is the only major city in the world that is effectively sold out of commercial office space.”

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