Kilroy Realty Corp. Willing to Go Spec All the Way

333 Brannan Street in San Francisco

By Sharon Simonson

Office landlord Kilroy Realty Corp. would begin construction next year on a speculative basis at both of the San Francisco office-development sites it now owns. But Chief Executive John Kilroy doesn’t think the company will have to.

“I do not believe that trees grow to the sky, but I have never seen so much visible demand from such a diverse group of people as I have seen in the San Francisco and Bay Area right now,” he said.

Despite lots of public discussion comparing this technology recovery to the boom and bust seen a decade ago, Kilroy sees no flagging of tenant interest in its space in the San Francisco, Peninsula and Silicon Valley markets. San Francisco tenants are not materializing with “mega-lease demands” on the order of magnitude seen earlier in the recovery from companies such as Twitter, Zynga and Macys.com, he said.

But San Francisco has become a have-to location for the knowledge-based companies that need the talents of its workforce. Tenants involved in recent leasing activity span the industry range from entertainment, sports and advertising to software companies and retail services. Most are seeking 25,000 square feet to 75,000 square feet.

Kilroy said Oct. 23 it had acquired 0.43 acre at 350 Mission St. in San Francisco for approximately $52 million and intended to build a 27-story, 400,000-square-foot office tower. The building is fully approved; the plans are 85 percent complete, and if the company started construction next year, delivery would be in 2015. In July it bought 333 Brannan St. for $18.5 millon. It hopes to build 175,000 square feet of offices beginning late next year.

Under questioning from analysts about the company’s expectations for the Mission Street site, the chief executive said, “I don’t mind taking some speculative risk on that project.”

The building is immediately across the street from the new Transbay Transit Center and Transbay Tower, the more than 1,000-foot-tall office building being built by Hines and Boston Properties.

“I have been in San Francisco, two, three, four times in the last week or so, and I’m going tomorrow. Most of the meetings I am having are with major users from a diversity of businesses—not just technology—that are very interested in that building, and most of those discussions are for the full building,” Kilroy said.

Later in the call, he said, “With 333 Brannan I have no problem starting without a tenant, but we are also talking to people right now who want that.”

In San Francisco, the company has secured tenant commitments for 80 percent of its 360 Third St. building, which it acquired in December 2011. At the end of the last quarter, the company reported lease commitments in the 410,000-square-foot building for only 37 percent of the leasable space.

Also in the third quarter in the city, the company executed a letter of intent at one of its two existing Brannan Street buildings—the chief executive did not disclose which—at more than $60 a foot on a full-service, gross basis, or more than $50 a foot on a net basis, after property expenses. “The proforma on that building was in the $30 a foot, triple-net range,” Kilroy said.

The company owns 250 Brannan St. and 301 Brannan St. with a total of about 175,000 square feet. The company reports both buildings were fully leased at the end of the third quarter in filings with the Securities and Exchange Commission.

The Los Angeles-based real estate investment trust is turning its face more and more to the Bay Area. On the call, Kilroy outlined details of the company’s $1.1 billion development pipeline. Five of the six projects, involving an aggregate investment of approximately $815 million, are in the Bay Area—two in San Francisco and one each in Redwood City and Mountain View. The fifth—a $45 million build-to-suit for a 90,000-square-foot office building—is in Silicon Valley, but thus far the tenant is unnamed. That deal is expected to close this quarter.

The company expects to sell a 3.4 million-square-foot Orange County industrial portfolio in “two tranches” during the fourth quarter, Kilroy said. It anticipates $355 million in gross proceeds. “We expect significant additional sales in the next year or so,” Kilroy said. The company retains 500,000 square feet of Orange County offices, but he did not believe it would keep the property long-term. Kilroy also is unlikely to greatly expand its San Diego portfolio, the chief executive said.

At 5.2 million square feet, the company’s San Diego office portfolio is by far its largest, followed by Los Angeles and Ventura counties where it has three million square feet, then the Bay Area, where it has 2.2 million square feet, counting only its stabilized buildings. It has 1.7 million square feet in Greater Seattle.

Image courtesy of Kilroy Realty

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