Irvine Company in Silicon Valley: Rent on Idle Space
By NIDAL IBRAHIM and DANIEL D. WILLIAMS
In late 1997, with the memory of one of the most brutal recessions still fresh on their minds, Donald Bren and executives at The Irvine Company set out on a diversification bid they hoped would broaden them from their historical base in Orange County.
The company sought to replicate its success with the Irvine Spectrum in technology’s mecca, Silicon Valley, by opening a San Jose office and building a portfolio of properties in the area.
“There are a lot of similarities to here,” said Clarence Barker, president of the Irvine Co.’s Investment Properties Group, of Silicon Valley. “There’s a strong work force and a strong university to draw from for research and labor.”
Ditto for the Irvine Co.’s other expansion spots, San Diego and West Los Angeles, Barker said.
The Irvine Co.’s strategy, real estate sources say, is a sound one. The timing, particularly in Silicon Valley, is another matter.
The company’s flagship McCarthy Center in Milpitas, built for Cisco Systems Inc., sits empty,a million square feet of new space that’s never been occupied.
“There’s an eerie quiet here that makes you wonder, is this what the end of the world looks like?” the San Jose Mercury News asked of McCarthy Center in a recent story about Silicon Valley’s real estate downturn.
Cisco continues to pay rent to the Irvine Co. for the Milpitas space as well as unused space the networking gear maker has in Irvine’s University Research Park.
From a business standpoint, the Irvine Co. can call McCarthy Center a success. The company has a credit-worthy tenant that’s paying rent, even as Cisco seeks to sublease the space at a 50% discount from what it’s paying, according to Silicon Valley brokers.
But from an image standpoint, the center’s buildings are a ghostly reminder of the misfortunes that have befallen tenants and landlords across Silicon Valley. The Irvine Co.’s big splash in the region fell victim to economic shifts few had predicted.
In Silicon Valley and elsewhere, the company’s holdings are shielded to a degree from the dot-com bust, thanks to a cautious leasing strategy coupled with the company’s choice building locations.
“We are comfortable and confident in the markets,” Barker said. “We believe they will recover. Orange County is more diverse than the other markets, and we believe it will fare better. There’s a lot of innovation in Silicon Valley. The innovators are still there, so we’re still comfortable with that market. And we believe that north San Diego is one of the more stable markets.”
The bulk of the Irvine Co.’s portfolio remains in OC, where the company owns 28 million square feet of office, industrial and retail space, as well as 15,000 apartments.
The severity of Silicon Valley’s downturn and widespread vacancies in OC present a challenge for the Irvine Co., which typically commands the highest rents in the markets where it operates.
For the most part, the Irvine Co.’s approach has paid off, as evidenced by the rental rates the company has commanded in some of its buildings, particularly in Newport Center.
In other cases, the stance has fallen victim to timing. The most noteworthy example is the loss of Lake Forest-based Western Digital Corp. as the key tenant in one of its Irvine Spectrum high-rises. The disk drive maker’s former Irvine Spectrum building is 87% empty, according to real estate tracker CoStar Group Inc.
Last year, the company cut asking rates for some Irvine Spectrum and other buildings, a response to slackened demand from technology companies. Others followed suit.
Irvine Co. officials declined to comment on whether they’ve adjusted rates for Cisco’s unused space in Milpitas.
In Silicon Valley, the Irvine Co.’s push has focused on office and flex-tech space. Holdings include roughly 2 million square feet of campus-type office and flex-tech space. The Irvine Co. also owns more than 3,500 apartment units and retail space in the area.
Silicon Valley’s vacancy rate for flex-tech space is running at 16% as of the fourth quarter, including 12.7 million square feet of sublease space, according to Grubb & Ellis Co.
So far this year, flex-tech net absorption stands at a negative 18.9 million square feet, an indication that things are likely to remain slow for a while as the market seeks to absorb excess space.
“I expect Santa Clara and Sunnyvale (vacancy) numbers to go up because the market has gotten worse in the first quarter,” said Phil Mahoney of Silicon Valley brokerage Cornish & Carey Commercial. “We’re again having negative absorption.”
Irvine Co. officials declined to discuss vacancy rates at their Silicon Valley properties. A check of the company’s Web site indicates roughly 220,000 square feet of space is available in the area,not taking into account the roughly million square feet of empty space leased to Cisco.
The Irvine Co. is a small player in Silicon Valley. It faces more competition there, and its presence doesn’t always register with brokers,something almost unheard of here.
“My perception is they’re new in the market and I don’t see them having a huge presence yet,” said Rich Branning, executive vice president with The Staubach Cos.’ Palo Alto office. “They may have plans to do so, but I don’t run across their product much at all.”
Despite the company’s experience with McCarthy Center, the Irvine Co. said it plans to be a player in Silicon Valley. While Barker said the company isn’t looking to buy in Silicon Valley now, it does have plans to develop a million square feet at its Santa Clara Gateway project.
“We’re ready to go,” Barker said. “Plans are approved. We’re just watching the market.”
Area brokers say the Irvine Co. has slowed that project and probably won’t break ground until the market improves.
“On the Santa Clara project, they were a little late to the party,” Mahoney said. “But, long term, they should be fine. That’s a class A site.”
Drew Arvay, managing partner of BT Commercial’s San Jose office, said the Irvine Co. has advantages in Silicon Valley.
“Part of what the Irvine Co. brings to any market,whether they dominate or are just one of the quality players,is that they still bring all the capabilities with them,” Arvay said. “Their (cheaper) cost of money, their experience as far as construction, and the scale of what they tend to do gives them economics of scale, no matter where they operate.”
The challenge?
“They do have to compete with other major players,” Arvay said.
The Irvine Co. is squaring off with Cupertino-based Sobrato Development Cos., Santa Clara’s Peery & Arrillaga, Cupertino’s Mission West Properties Inc. and the local arm of Chicago’s Equity Office Properties Trust, among others.
“They are forced to have to compete with other quality landlords, but they certainly seem to have done that effectively because the whole world was trying to capture Cisco,” Arvay said.
Despite Cisco’s bad news of late, the Irvine Co. “doesn’t have any exposure. They leased it up to Cisco and they can sit back and hope the market comes back,” Staubach’s Branning said.
Barker and other Irvine Co. officials declined to discuss specifics of McCarthy Center. But they are aware of the sensitivity of the issue, especially as Cisco seeks to sublease the space and continues to be a tenant in other Irvine Co. properties in Irvine and West Los Angeles.
“Clearly they are a customer of ours,” Barker said. “We want to maintain a good relationship with them.”
Meanwhile, in Los Angeles and San Diego
The Irvine Company has had better going in areas other than Silicon Valley.
In West Los Angeles, where the company’s acquisition pace has been slower, its portfolio consists of two trophy buildings that command some of the highest rates in the Century City area, in excess of $4 per square foot.
The Westwood Gateway complex spans more than 1 million square feet of high-rise office space. Currently, the Irvine Co. is peddling 171,000 square feet of vacant space there, according to its Web site.
The Irvine Co.’s other Westside property, Fox Plaza, is one of the premier buildings in the Century City area. The 34-story, 970,000-square-foot Fox Plaza has some of the highest rents in the area. And, despite losing tenant Jeffer, Mangels, Butler & Marmaro LLP because the law firm was unwilling to pay the steep price, Fox Plaza boasts only 14,000 square feet of vacant space, according to the Irvine Co.’s Web site.
Bob Zelken, a broker with Jones Lang LaSalle’s downtown office who works the Century City area, said the Irvine Co. has two well-positioned properties.
“Century City is so supply-constrained they probably can afford to be selective,” he said. “It doesn’t have the glut of surplus space that Santa Monica has and certainly not the space you see in Northern California.”
One of the key reasons, he said, is that the Century City market never became dependent on the dot-com companies. It’s dominated by the more stable legal industry.
In San Diego, the Irvine Co.’s acquisitions have been more modest, and its projects haven’t been affected by some of the problems plaguing Silicon Valley.
The company’s San Diego area holdings total 1.9 million square feet of office space, including: the Eastgate Technology Park in University Town Center with 14 buildings totaling 734,060 square feet; La Jolla Gateway, with two mid-rise executive office buildings totaling 330,000 square feet; Canyon Ridge Technology Park in Sorrento Mesa, with 675,000 square feet of mid-tech and flex-tech buildings; and the Cornerstone Corp-orate Center, a four-building, 179,000-square-foot class A property in Carlsbad.
Most of the properties are leased up, with only the La Jolla Gateway complex offering roughly 30,000 square feet of available space.
Despite some short-term problems, the Irvine Co.’s plans outside Orange County stand to pay off, real estate sources say, thanks mainly to strong locations and the company’s track record.
“Our view is always long term,” said Clarence Barker, president of the Irvine Co.’s Investment Properties Group. “That’s probably the biggest difference between us and many developers.”
,Nidal Ibrahim
