(BCN) -- Silicon Valley's offices are rapidly emptying out, as the paradigm-shifting remote work culture brought on by the pandemic continues to affect the commercial real estate market. A December report from the research arms of Joint Venture Silicon Valley and commercial real estate firm JLL Silicon Valley shows demand for office space in the third quarter of 2023 has been weak, while competition for tenants between landlords and companies subleasing their existing space is increasing.
Silicon Valley office vacancy rates increased to 19.6% at the end of the third quarter in September. That's a 1.5% increase over the prior quarter, and about a 2% increase year over year.
The region's vacancy rate is higher than in New York City at 16.5%, and Washington, D.C. at 19.1%, but remains below San Francisco at 30.4%, Austin's 21.3% and Boston's 19.8%, the report said.
The report defines Silicon Valley as all of Santa Clara and San Mateo counties, plus the cities of Fremont and Newark in Alameda County. Ricky Manago, an affiliated researcher for the Silicon Valley Institute for Regional Studies, the research arm of Joint Venture Silicon Valley, said the rise in vacant office space in the third quarter isn't a surprise.
But he noted it took a little longer for the Silicon Valley region to see a more rapid rise in vacancies than other markets.
"Leases don't roll over right away, especially in the Bay Area, where businesses tend to sign longer leases because they are bigger spaces," Manago told San Jose Spotlight. "They will be affected, but it takes a while for the numbers to grind out."
In a market like New York City, office building operators tend to have leases with several companies operating in smaller spaces, so the contracts are for shorter terms. Manago added that apartments and homes are smaller in denser cities, so working from home is a less pleasant experience.
"People are more likely to want to go back to the office and have that space utilization, but not here," Manago said. "In a suburban market like Silicon Valley, more often you'd see people more accustomed to working from home and more comfortable working from home.
Lagging behind
At the end of the third quarter in Silicon Valley, commercial leasing lagged behind last year and may be on pace to end the year with the second lowest leasing volumes since 2017, the report said. There were 781 commercial lease transactions through the third quarter of 2023, which is 39% lower than the 1,276 in 2022 and 12% below 882 in 2021, the report said.
Commercial leasing in Santa Clara County by square footage was 64% of last year's annual total, while San Mateo County leasing was at roughly half of the prior year total.
"The remote-friendly tech worker environment has changed the math on how much space companies need and what they will need in the future," Alexander Quinn, director of research at JLL Northern California, said in a news release about the report.
While leasing has slowed, commercial office projects were being completed at a rate almost double the prior quarter, with 1.6 million square feet of new office space finished in the third quarter. By the end of the year, nearly 6.4 million square feet of development is expected to be completed.
But vacancy rates are likely to climb as these major buildings, like Jay Paul's nearly 1 million-square-foot office building in downtown San Jose at 200 Park Ave., are completed but go unoccupied. Only 3% of the 1.6 million square feet of new commercial space completed in the quarter was pre-leased, the report said.
With the market facing higher interest rates and softer demand for office and lab space, there are less commercial construction projects starting.
Despite the increase in vacancies, commercial rents have historically had "a significant amount of price stickiness," the report said. While rents may not fall drastically, researchers said the market is more likely to see a rise in concessions such as tenant improvement allowances and free rent periods for new tenants.
Quinn said as companies and workers continue "learning the importance of in-person collaboration, training and creation," occupancy may continue to rebound.
"However, the way we use office space has changed and by any measure we expect office users to become increasing more efficient where not all staff will need their personal space," he said.
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