In 2003, after the dot-com bust, PMI sensed an amazing purchasing opportunity in San Francisco. The area south of Market, known as SoMa, had vacancies reaching upwards of 40%, leasing brokers  began describing the area as “toxic.” SoMa looked like a promising area to recreate the magic acquisitions PMI assumed in the Los Angeles Westside during the mid-90s property grab.

By 2003, entertainment, advertising, and media companies on the Westside of Los Angeles had helped the area stage a rapid comeback from the tech crash. Late in 2003, PMI sold a 75,000 square foot Santa Monica creative office property to a Texas-based realty pension adviser. It was the first time an institutional buyer purchased a Westside creative office building. Soon after, the buying frenzy started and creative offices were being bought and sold at record prices. Comparatively, in SoMa during 2003 and 2004, only residential converters were buying creative office buildings and for under $125 per square foot.

PMI targeted San Francisco as a prime place to purchase creative office buildings for several reasons:

1. The city has an incredibly large workforce of highly educated individuals.
2. The city has one of the greatest concentrations of software engineers in the world.
3. Two of the top universities in the country are located in the area.
4. The city is dominant in venture capitalism.
5. We took into account Richard Florida’s “Creative Class,” in which he argues that the world’s power and wealth will be concentrated in super regions of knowledge workers. We agreed with his theory and believed San Francisco  fit the paradigm perfectly.
6. We considered the study of the history of innovation, which shows that the discovery of disruptive technology tends to end in a bursting of bubbles and is followed by an even greater and more mature expansion of the technology (a cycle that can happen many times).

While San Francisco seemed a great arbitrage, we were too frightened to buy anything in 2003. It wasn’t until late 2005 that we bought our first property, with the tenants and cash flow in place at the time. The deals were not as good as buying empty buildings, but they were a lot better than the creative office deals on the Los Angeles Westside. Rents climbed from $22 modified gross per square foot in 2005 to $36 modified gross per square foot in 2007and then collapsed below $22 modified gross per square foot in 2009.

With rents at an all time low and a building half vacant, we went on a search for the best start-up companies we could find and made them deals they could not refuse. Our first two takers were Eventbrite and Yammer. In another building, we leased a space to a startup called Twitter.

As described in this article from the San Francisco Business Times, things got much better in San Francisco. Rents are now well over $40 modified gross per square foot. The arbitrage between San Francisco and the Los Angeles Westside is no more. REITs and institutional investors dominate the business now.

“My warning,” says Jeffrey Palmer of PMI Properties, “is that this is a very volatile business. At some point in the cycle–both on the rise and fall, what you are experiencing may be volatility.”