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TAMI tenants are facing a reckoning – they may not need all the office space they leased up to and during the pandemic. And now, so much of the space is showing up on the sublease market that those firms have reluctantly become landlords in their own right. 

The impact is hitting certain markets hardest. According to Savills’ first quarter report, sublease space has climbed to a new record level in Manhattan which means that more space is now available on the Manhattan sublease market than in the early months of the pandemic. On the West Coast, San Francisco’s office vacancy is now approaching 30%, according to CBRE. And Chicago made headlines throughout March as Meta, Salesforce, and Publicis Group decided to put significant quantities of office space on the market for sublease in the windy city’s central business district. These three markets are also each home to sizable sublease listings from Salesforce. While the technology firm has announced plans to shed space in both Chicago and San Francisco, it has yet to announce any at its more than 200,000-square-foot New York City office at 3 Bryant Park. 

Sublease Average Starting Rents Down 25.5% Since 2019 in San Francisco

The tech sector’s impact on demand for office space is reflected in the robust rise in the price of sublease space in San Francisco – average sublease starting rents increased every year from 2010 to 2019. The price of sublease space in San Francisco outpaced sublease starting rents in New York City from 2017 until 2021. 

But since the beginning of COVID-19 and a wave of tech sublease additions, average starting rents for sublease space in San Francisco declined more than 25% from its 2019 peak at $86.80 to $64.70 in 2022. Over the same period, average starting rents for closed sublease transactions increased by 12.1% in Chicago’s CBD and 3.6% in New York City. A number of higher-profile transactions drove up New York City and Chicago’s averages in both 2021 and 2022.

Among the deals in New York, Santander Bank signed a sublease for 160,000 square feet of WeWork’s former space at 437 Madison Avenue in the Madison/Fifth Avenue submarket for the remaining 67 month term. And additionally, Monday.com signed a sublease with above average starting rents for 110,000 square feet for 42 months at 225 Park Avenue South for Buzzfeed’s former space

In Chicago the story has been similar. In 2021, the healthcare firm Vizient signed a lease for the remaining 15 years of Uber’s 109,000 SF lease at 433 West Van Buren Street. The same year, software firm Braze signed a sublease for 50,000 SF at 1 North State Street in the East Loop, taking over the remaining 6 year term of a lease originally signed by Showpad. In 2022, Google signed a sublease for the remaining 12 years of Leopardo Companies’ 23,000-square-foot space at 210 North Carpenter Street. Tastyworks, a trading software firm, also signed a longer term sublease in Fulton West at 1330 West Fulton Street.

On a percentage basis, San Francisco’s recent decline still pales in comparison to its situation during the Great Financial Crisis. From 2008 to its recession trough in 2010, average starting rents for sublease space declined nearly 40%. Average starting rents had slightly shallower declines of 37.5% in New York City and declined by 18.8% in Chicago from 2008 to their recession troughs.

Subleases Traded at Nearly 24% Discount Relative to Direct Leases in New York City in 2022

Since the fourth quarter of 2020 through the end of 2022, the spread between average starting rents for direct and sublease space has trended highest in New York City among these three markets. Weighted by average lease term, New York City direct deals have closed nearly 24% higher per square foot in starting rents during this time. Meanwhile, the spreads in Chicago and San Francisco have trended lower, averaging 5.1% and 16.6%, respectively, during this period. 

In the wake of the Great Financial Crisis, the spreads in these markets trended differently in comparison. According to Savills, U.S. sublease space peaked in 2Q 2009 in the aftermath of the last financial crisis. From 4Q 2007 (the official beginning of the Great Financial Crisis recession) to 2Q 2009, Chicago’s spread trended the highest, with direct deals averaging more than 22% above sublease transactions in terms of starting rents. During the same period, New York City averaged 5.1%, with San Francisco spread on par with most recent levels. Notably, New York City’s average sublease rent during the Great Financial Crisis was just 7.9% below the most recent period’s average, but average sublease rents in Chicago and San Francisco grew more substantially over this period. During the Great Financial Crisis, the average sublease rent for completed transactions was about $25 per square foot in Chicago and less then $35 in San Francisco.

Current In-Place Rents Exceed Sublease Starting Rents Across Markets

Subleasing will present significant challenges for potential sublessors in San Francisco and New York City specifically. Recent deals analyzed across markets reveal that subleases come at a discount relative to rents being paid by all current active tenants in the same markets. Current in-place rents exceed recently-executed sublease starting rents by +1.3% in Chicago, +9.0% in New York City, and +21.0% in San Francisco. With subleasing options plentiful in these markets, tenants seeking to sublet space may do so at a discount to their current rent being paid to close the deal. Thus, large tenants shedding space may struggle to recoup the full costs associated with their lease agreements. At the same time, an influx of sublease space creates increased competition in the market, and puts pricing pressure on the substantial quantity of space available for direct lease in each of these markets. For tenants seeking shorter-term leases and “plug and play” office space, sublease space may be more attractive than direct deals, especially as construction costs and timelines for office build-outs remain elevated. 

In San Francisco, with its tech-dominated office sector, the situation may be even more dire. Finding a suitable sublessee to backfill space can be a daunting task, given work-from-home trends and other changing desires of the tech industry. With sublease space at a new record-high, there will be many spaces that never find a sublessee across these markets. The next challenge for the office market may be when the term of these sublease listings expires. For now, tenants seeking to shed space are still paying rent, but if these leases expire and become direct availability, this could further negatively impact landlords’ revenue and the health of the office market.

Want to know more about subleasing trends in your market? Try CompStak!

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