Faced with an economic slowdown, a downturn in the technology sector, and softening in lodging demand, San Francisco�s top industry experienced the steepest year-over-year decline in the state of California for 2001. 2000 was a banner year for the city�s economy and its tourism sector, with tourism revenues increasing nearly 9 percent over 1999. In 2001, however, prior to September, San Francisco�s 34,000-room lodging industry was performing at approximately 10 percent below 2000 levels. Post September, San Francisco�s lodging market performance experienced declines above 40 percen compared to the prior year. With continued declines in business travel, increasing airline cutbacks and consumer flying concerns, as well as a looming recession, San Francisco�s lodging market is anticipated to be further challenged in 2002.

Major Demand Changes

The events of 2001 challenged the city�s lodging industry�s ability to perform at prior year levels. Following the technology sector fallout, office vacancy rates in San Francisco soared from approximately 4 percent in 2000 to slightly above 10 percent in 2001, with additional sublease lease space available. Consequently, office rent in downtown San Francisco is 50 percent below last year�s levels, impacting surrounding cities such as San Jose and Oakland, which previously enjoyed a resurgence in business demand following a lack of affordable space in San Francisco. Cisco Systems recently announced that it will indefinitely postpone the construction of its 6.6 million square foot world headquarters in San Jose. As the economy continues to weaken, the shrinking office market and associated weakness in corporate travel spending are anticipated to further impair the recovery pace of the highly lucrative business demand segment.

With more than 80 percent of San Francisco�s visitors arriving by air, consumer flying concerns and airline cutbacks are reducing lodging demand across all segments.  United Airlines, with a substantial San Francisco operation, recently reduced its flight schedule by 25% and announced 20,000 layoffs. Several development initiatives, however, are anticipated to contribute to San Francisco�s unique value proposition. The Moscone Convention center�s 750,000 square foot expansion is anticipated to be completed by 2003 and generate approximately $240 million in additional convention-related revenues. The University of California�s Mission Bay biotech park development should help San Francisco diversify its business mix and attract biotechnology firms. The proposed $400 million Bloomingdale�s development, scheduled for completion in the summer of 2003, is anticipated to convert San Francisco�s classic Emporium department store building into a large retail, hotel, and entertainment complex. In addition, the proposed $900 million transformation of downtown San Francisco�s Transbay Terminal into a mega residential, retail, and hotel development complex is currently in its late planning stages and groundbreaking is anticipated as early as 2003. Preliminary plans for a $300 million cruise ship terminal on San Francisco�s waterfront have received governmental support, yet many legislative issues must be resolved prior to groundbreaking.

Major Supply Changes

Several prominent hotel development projects, planned and constructed during the technology boom, have been recently completed and others are in the pipeline. During 2001, the 375-room Clift Hotel, Ian Schrager�s latest San Francisco development, opened in July while the 277-room Four Seasons San Francisco and an 18-story, 450-room Courtyard by Marriott located adjacent to the Moscone Convention Center opened in October. In downtown San Francisco, the 362-room Omni San Francisco is scheduled to open in January 2002 and the 269-room St. Regis Museum Tower is anticipated to open in 2003. Several other hotel projects are slated for San Francisco�s waterfront area, including the Argonaut Hotel, a 268-room Kimpton Group property, scheduled to open in the fall of 2002 and a 200-room hotel between Mission and Steuart Street, scheduled to open in 2003. In the preliminary planning stages are two Stanford Hotel Group developments including a 410-room Marriott located at San Francisco�s waterfront area as well as a 600-room hotel near the airport.  In San Jose, the Fairmont�s additional 300-room tower is scheduled to open in January 2002 and a 506-room Marriott City Center is anticipated to open in January 2003.

Political/Economic/Legal Changes

The city�s recent tourism downturn is anticipated to have a profound impact on the local economy. Last year, tourism spending accounted for approximately $7.6 billion and is estimated to have sustained 82,000 jobs and contribute over $474 million to the city�s budget. This year government officials are projecting a $100 million shortage in the city�s budget due to the decline in the technology sector and the sustained weakness in tourism. Airline cutbacks are also a concern given that the area�s three airports are estimated to directly and indirectly contribute more than $37 billion to the local economy and support approximately 1 million jobs. To stimulate tourism demand, Mayor Willie Brown announced several citywide tourism promotional programs and a governmental assistance package for the struggling local lodging industry is under consideration.

Jeff Dallas, Los Angeles
Troy Jones, Los Angeles
Nir Liebling, Los Angeles 

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