How AI Companies are Reviving the Office Leasing Landscape

Is Artificial Intelligence going to save the Commercial Real Estate industry?

Amidst a challenging office market still reeling from a slowdown in tech leasing, Artificial Intelligence emerges as a beacon of hope. The dynamic AI industry, characterized by its rapid evolution, is showing a keen interest in securing new locations to facilitate its expansion.

By the close of 2023, Artificial Intelligence companies will have secured a significant 17.2 million square feet of office space nationwide. This surge in demand is poised to inject a new wave of vitality into the office market.

And where are the new leases being signed? Just you wait…Because new leases are injecting some
much-needed capital into the metropolitan market with the highest vacancy rate in the country.

AI Companies Are Expanding Their Footprints

As all other tech leasing has basically screeched to a halt, the interest in office space from the AI sector could reinvigorate the demand.

Artificial Intelligence is still being gradually phased into the corporate consciousness, and it’s
multi-billion-dollar potential is hard to ignore. At full potential, the developments could stand to be one of the biggest disrupters the global workforce has ever seen.

And in the race to the top, AI companies are increasingly looking to invest in expanding their footprints.

Because ironically enough, despite the advancements in remote work capabilities and virtual communication tools, many professionals in the Artificial Intelligence field recognize the unique value of physical office spaces. Most AI startups and professionals want in-person collaboration. Because of this, the field is carrying a lot of the new leasing transactions in the tech sector.

Even in the industrial sphere, the rapid growth of AI is fueling demand. There is new emphasis on premium data centers and companies are racing to secure them before further evolution. The Data Center Frontier explains that, “The leasing spree is led by hyperscale operators placing huge bets on AI, who want to ensure access to data center space to house power-hungry server hardware for new generative AI applications.” 

Because of this reinvigorated demand, the sector is expected to end up with record-leasing gains this year.

But, that's not the only notable trend tenants should be aware of right now. Don't fall behind on the latest news and valuable tips from the CRE world. 

Where Are The New AI Leases Being Signed?

The new surge in AI leasing is giving some much needed love to our nation’s most struggling city in a post-pandemic leasing environment, San Francisco. With an office vacancy rate reaching 28%, many understood this as a final condemnation the city’s office market couldn’t survive.

While it may seem odd that one of the newest, freshest industries is picking a ghost town haunted by empty offices, it actually makes a lot of sense.

Is San Francisco Perfect for AI Companies?

It shouldn’t really be a surprise that AI has found a niche in San Francisco. The ex-tech capital of the world allows them to tap into its reputation while taking advantage of the fire sale of properties according to record devaluation of recent years. So, the perfect storm has been brewing for the right industry that’s looking to pick up space.

Previously recognized as a technology stronghold, San Francisco has undergone a remarkable shift, marked by a surge in office vacancies and a significant drop in property valuations. The exodus of tech giants, who have downsized, subleased, or shifted operations, contributed to a notable 10% increase in vacancy rates during 2022 alone. Consequently, this oversaturation has led to a substantial decrease in property values, a stark contrast to the sky-high prices witnessed during the heyday of Silicon Valley.

AI companies, recognizing the opportunity amid this market reshaping, are capitalizing on the city's reputation while benefiting from the more affordable property prices that have arisen due to recent devaluations.

Affordable, premium offices are especially attractive to a still burgeoning industry like AI, which is getting on its feet. Most of the companies working on AI expansion are start-ups that don’t yet have access to unlimited capital. A lot of the leases signed in San Francisco so far have been smaller-scale leases.

And they are able to take advantage of the fire sale of San Francisco properties. Because of all these factors. AI companies have already tripled the size of their footprints in the city since 2016.

“Ten AI companies are today seeking between 700,000 to 800,000 square feet of office space in
San Francisco.” Axios

Because of all this new activity, San Francisco is experiencing a much-needed boom in demand, a 10.2% increase in the most recent quarter (Q2 2023). Many see this as a turning point for the city. The worst has maybe come, but is it only up from here?

Can the Recent Leases Pull San Francisco Out of Its Slump?

San Francisco is still sitting at an unprecedented 28% vacancy rate. This means that around 25 million square feet of office space is vacant in the city, about 8 times what it was in 2019. In some areas including the South of Market, Mid-Market, and Mission Bay / China Basin neighborhoods the vacancy rate even reaches 35%!

So, the new bump in demand only represents a solution to a fraction of the available building stock.

New AI leases may not be enough to dig the city out of the hole it’s in. Many believe the city is a hopeless wasteland teetering on the brink of collapse.

And for the square footage that AI leases now, it puts about three times of that in risk of being obsolete in the future.

It’s worth mentioning that Artificial Intelligence empowers companies to do more with less white-collar labor. And if the estimates are correct that AI can reduce a workforce by a third, that leaves a lot of extra office space. So only time will tell what the recent AI leases mean for the future of the office market. 

What Does Uptick in AI Leases Mean For Tenants?

The emerging trend of new AI leases in San Francisco might indicate a significant turning point for the city. Despite the city's high office vacancy rate, the growing interest from AI companies in leasing office space could potentially mark a shift in the market's direction. This surge in demand, driven by the AI sector's expansion, could potentially breathe new life into San Francisco's office market.

Commercial tenants should take a page out of the book of AI companies and view the current downturn in property valuations and the upturn in vacant space as a valuable opportunity to secure real estate at significantly lower prices.

Especially in markets like San Francisco, tenants have the potential to acquire properties for a fraction of their previous cost. Moreover, this presents an opportunity for future appreciation as the market eventually rebounds. Taking advantage of the current situation, tenants can negotiate harder deals and secure more favorable lease terms, benefiting from concessions offered by landlords. Alternatively, they can explore the increasingly flexible leasing sector, allowing them to find a space that perfectly aligns with their square footage requirements.

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