Kilroy Realty (KRC) Q3 2025: San Francisco Office Demand Jumps 29% as AI Tenants Accelerate Recovery
San Francisco’s post-pandemic office demand surge, up nearly 29% quarter-over-quarter, propelled KRC’s strongest leasing performance in six years and signals a pivotal inflection in West Coast commercial real estate fundamentals. Accelerating AI and biotech tenant activity, disciplined capital rotation, and robust pipelines in both office and life sciences are converging to reshape Kilroy’s growth trajectory. Management’s raised guidance and strategic repositioning highlight a critical window for value creation as institutional capital and tenant demand return to core innovation hubs.
Summary
- AI and Tech Tenant Demand Surges: San Francisco leasing activity reached a multi-year high, driven by AI and new tech entrants.
- Life Science Pipeline Strengthens: Kilroy Oyster Point Phase 2 leasing exceeded expectations, with biotech tenants anchoring early phase-up.
- Capital Rotation Accelerates: Strategic asset sales and new Beverly Hills acquisition position the portfolio for higher returns and flexibility.
Performance Analysis
Kilroy delivered its highest third-quarter leasing volume in six years, signing over 550,000 square feet of new and renewal leases, with San Francisco’s South of Market (SOMA) assets leading the recovery. San Francisco office demand rose to nearly 9 million square feet, up from 7 million last quarter, a 29% sequential jump, with AI and technology companies driving much of the new activity. Tour activity in SOMA assets increased 170% year-over-year, reflecting a broad-based shift in tenant appetite for well-located, amenitized space.
Portfolio occupancy edged up to 81%, outperforming expectations despite the impact of newly stabilized redevelopment projects. Retention rates improved to 60% for the quarter and 39% year-to-date, with 2026 lease expirations now reduced to 970,000 square feet, reflecting a 40% retention ratio on the year’s starting pool. The spread between leased and occupied space stands at 230 basis points, offering embedded growth potential as tenants commence occupancy through 2026. On the life sciences front, Kilroy Oyster Point Phase 2 (KOP2) signed 84,000 square feet of leases to date, with a robust pipeline that management expects will exceed its 100,000-square-foot year-end target.
- Leasing Momentum Outpaces Market: SOMA submarket and KOP2 both saw above-average absorption, with new tech and biotech entrants anchoring demand.
- Capital Recycling Drives Returns: The $365 million Silicon Valley campus sale and $205 million Maple Plaza acquisition in Beverly Hills shift the portfolio toward higher-yielding, supply-constrained markets.
- Embedded Occupancy Upside: Early rent commencements and a 230 basis point leased-to-occupied spread set up sequential NOI gains into 2026.
Overall, Kilroy’s execution this quarter signals a decisive shift in West Coast office and life science market dynamics, with AI and biotech demand underpinning a multi-year recovery thesis.
Executive Commentary
"In the city of San Francisco alone, office demand has reached a post-pandemic high of nearly 9 million square feet, up from approximately 7 million square feet last quarter, with much of this demand being driven by AI and other technology companies."
Angela, President and Chief Executive Officer
"Occupancy improved modestly, ending at 81%, up from 80.8% at the end of the second quarter. The improvement relative to our prior expectations was a result of earlier than anticipated rent commitments totaling approximately 200,000 square feet."
Jeffrey, Executive Vice President and Chief Financial Officer
Strategic Positioning
1. San Francisco Office Recovery
Kilroy’s SOMA portfolio has emerged as a bellwether for the city’s office market revival, with tour activity up 170% year-over-year and three consecutive quarters of major leasing at 201 3rd Street. The company’s focus on speed and certainty from lease execution to occupancy has resonated with AI and tech tenants seeking immediate, flexible space, allowing Kilroy to capture outsized share of a growing demand pool.
2. Life Science Ecosystem Expansion
Kilroy Oyster Point Phase 2 (KOP2), purpose-built for life sciences, is benefiting from a 20% year-to-date rise in regional biotech demand and increased M&A activity among pharmaceutical companies. The project’s first wave of leases, including NBC Biolabs and Acadia Pharmaceuticals, positions KOP2 as a hub for both established and early-stage biotech, with management signaling confidence in exceeding initial leasing targets and building a durable innovation ecosystem.
3. Capital Allocation and Portfolio Rotation
Kilroy’s disciplined capital recycling strategy was evident with the $365 million Silicon Valley sale and the $205 million Maple Plaza acquisition in Beverly Hills, a submarket with some of the lowest vacancy rates in Los Angeles. The company is leveraging market dislocations to acquire below replacement cost and to exit lower-conviction locations, targeting high-single-digit stabilized yields and low-double-digit unlevered IRRs on new investments.
4. Embedded Growth and Lease Expirations
With only 970,000 square feet of 2026 expirations remaining and a 40% retention rate on the original pool, the focus shifts to new leasing to offset expected move-outs. Kilroy’s SPEC Suites program, pre-built, ready-to-occupy office suites, is designed to capture tenants with immediate space needs, particularly in tech and AI verticals, supporting near-term occupancy stabilization and revenue growth.
5. Development Optionality and Entitlement Progress
Flower Mart, Kilroy’s largest development pipeline investment, is advancing through a re-entitlement process with the San Francisco planning department, targeting a mix of commercial and residential uses. Management expects interest capitalization to continue through June 2026, with future project flexibility and value maximization at the forefront of ongoing negotiations.
Key Considerations
This quarter’s results reflect a confluence of cyclical recovery and structural repositioning in Kilroy’s core markets. Management’s actions and commentary reveal a portfolio increasingly aligned with secular growth trends in innovation, AI, and biotech, while maintaining a disciplined approach to capital allocation and risk management.
Key Considerations:
- AI-Driven Demand Shift: Over 30% of San Francisco’s tenant pipeline now comprises AI or AI-related companies, reshaping leasing dynamics and compressing the gap between lease execution and occupancy.
- Shorter Lease Terms for Flexibility: New tech and AI tenants often seek three-to-five-year leases, requiring landlords to offer flexibility and rapid move-in solutions to capture growth tenants.
- Life Science Leasing Outperformance: KOP2’s early leasing success and diverse tenant base strengthen the project’s long-term growth outlook and position Kilroy to benefit from sector tailwinds.
- Capital Market Windows Narrowing: Management sees a unique, time-bound opportunity to acquire and sell assets at compelling valuations before broader institutional capital returns in force.
Risks
Risks remain around backfilling the remaining 970,000 square feet of 2026 expirations, particularly if new leasing momentum softens or if macroeconomic conditions delay tenant decisions. San Francisco’s rent spreads may remain negative in the near term, and higher tenant improvement costs could pressure project returns. Regulatory and entitlement uncertainty at Flower Mart adds further timing and execution risk.
Forward Outlook
For Q4 2025, Kilroy guided to:
- Modest occupancy improvement, reflecting accelerated Q3 rent commencements and the Neuhaus move-out impact.
- Continued leasing momentum in both office and life sciences, with embedded growth from the leased-to-occupied spread.
For full-year 2025, management raised FFO guidance by $0.11 per share at the midpoint, reflecting:
- Earlier than expected tenant occupancy and non-cash income recognition.
- Incremental NOI contribution from successful tax appeals and ongoing capital recycling.
Management underscored a strong leasing pipeline, robust tour activity, and continued asset rotation as drivers of 2026 growth.
Takeaways
Kilroy’s Q3 signals a pivotal inflection in West Coast commercial real estate, with AI and biotech tenants driving a resurgence in demand and portfolio repositioning unlocking embedded growth.
- San Francisco Recovery Accelerates: Tech and AI-led demand is compressing leasing timelines and reestablishing San Francisco as a core innovation hub, with Kilroy capturing outsized share through SOMA assets.
- Life Science and Capital Rotation Drive Growth: KOP2’s leasing outperformance and disciplined asset sales/acquisitions are positioning the portfolio for higher returns and resilience.
- Watch for Leasing Velocity and Rent Spreads: Sustaining new leasing momentum and managing rent spread headwinds in San Francisco will be critical to maintaining growth into 2026.
Conclusion
Kilroy’s Q3 2025 results underscore a decisive pivot in both office and life science fundamentals, anchored by surging AI and biotech demand and proactive capital allocation. Execution on new leasing and asset rotation will determine the durability of this recovery as market conditions evolve.
Industry Read-Through
Kilroy’s results and commentary point to a broader West Coast office and life science recovery, with AI and innovation tenants driving a return to urban cores and compressing leasing cycles. Landlords positioned with amenitized, flexible space in tech and biotech clusters are best placed to capture the next wave of demand, while those lagging in capital programs or asset repositioning risk further obsolescence. The window for opportunistic capital deployment appears narrow, as institutional buyers and tenants accelerate their return to core markets. These dynamics will likely ripple across other innovation-driven real estate portfolios in the coming quarters.