Downtown Palo Alto, the heart and soul of Silicon Valley and former home to Google, Facebook and PayPal, is slowly turning into a scene out of "Lord of the Rings." Palantir Technologies, a highly secretive software developer whose name is derived from a magical crystal ball in J.R.R. Tolkien's fantasy novel, has been gobbling up real estate in the upscale home of Stanford University, and — according to critics — uprooting a vibrant start-up ecosystem in the process. Unlike its start-up predecessors, which outgrew the cramped streets of Palo Alto and moved to more traditional corporate campuses in nearby Menlo Park and Mountain View, Palantir is intent on staying put and expanding. The company controls about 250,000 square feet of office space, or 10 to 15 percent of the commercial inventory, spread over 23 or so buildings. Some of its leases are for a decade or longer.

Palantir's logo featuring a circle above a wide lower-case v is everywhere. T-shirts sporting the company's motto "Save the Shire" (referring to the home of the hobbits in Tolkien's Middle-earth) can be seen in coffee shops, at parks and on treadmills. "There's more Palantir paraphernalia in downtown Palo Alto than there is Patagonia," said Peter Hebert, co-founder of venture firm Lux Capital, which left for Menlo Park late last year because there was nothing available in Palo Alto. "There's such scarcity that it's pushing everyone else out."

Asking rents for commercial space are $121 per square foot annually, more than triple the national average, according to commercial real estate firm Jones Lang LaSalle. Prices have about doubled in the past five years, and according to Jones Lang the vacancy rate sits at 1.5 percent. Palantir's rates vary because many of its leases were signed when prices were substantially lower. Not that it's strapped for cash — the company has raised close to $2 billion and is valued at $20 billion. It also subleases some of the space to smaller start-ups.

`Save the Shire'

Palantir t-shirt. CNBC

The Palo Alto residential market is equally tight, with the average four-bedroom, two-bath house listing for $2.1 million, making it the second most expensive city in the U.S., according to Coldwell Banker. Palantir CEO Alex Karp lives in the neighborhood.

Meanwhile, fast-growing start-ups are leaving town and younger companies are choosing to set up shop elsewhere. Online financial services provider Wealthfront, unable to find suitable space to grow in Palo Alto, moved five miles north to Redwood City, as did smartwatch maker Pebble. "Spaces becoming available were requiring 10- to 15-year leases, which for a start-up is a tough nut to swallow," said Ashley Fieglein Johnson, Wealthfront's finance chief. In moving to Redwood City, Wealthfront upgraded from a 9,500 square foot office to one more than twice that size.

While emerging companies bid adieu, Amazon.com, through its A9 search division, has become Palantir's principal competitor for space. The company recently won the bid for SurveyMonkey's 50,000-square-foot office, about the same size as A9's headquarters across the street. SurveyMonkey is relocating to a bigger facility in San Mateo. Read More Amazon's next catalyst Jeff Clavier, a prominent venture investor in early-stage start-ups, moved his main office from Palo Alto to San Francisco because of a lack of investment opportunities. His last Palo Alto-based start-up, marketing software developer Kahuna, left Palo Alto in late 2015 for a 42,000-square-foot space in Redwood City. "Start-ups cannot compete against Palantir and sign super long leases at top dollar," said Clavier, founder of SoftTech VC. "Now, you just have a bunch of Palantirians hanging out in P.A. There's nothing wrong with that except it once had a vibrant start-up community and that's gone."

A Palantir spokesperson declined to comment for this story. Everything about Palantir is unique. Founded in 2004 by a group of ex-Stanford students including Karp, Joe Lonsdale and PayPal co-founder Peter Thiel, it's the most valuable venture-backed start-up focused on selling to enterprises.

Inside Palantir

Palantir is notorious for its secrecy, and for good reason. Its software allows customers to make sense of massive amounts of sensitive data to enable fraud detection, data security, rapid health care delivery and catastrophe response. Government agencies are big buyers of the technology. The FBI, CIA, Department of Defense and IRS have all been customers. Between 30 and 50 percent of Palantir's business is tied to the public sector, according to people familiar with its finances. In-Q-Tel, the CIA's venture arm, was an early investor. Annual revenue topped $1.5 billion in 2015, sources say, meaning Palantir is bigger than top publicly traded cloud software companies like Workday and ServiceNow. It has about 1,800 employees and is growing headcount 30 percent annually, said the sources, who asked not to be named because the numbers are private.



Still, Palantir has no interest in opening a conventional campus. In late 2015, it signed a more than 10-year lease for about 37,000 square feet at 261 Hamilton, an 89-year old edifice that's listed in the National Register of Historical Buildings. Two blocks away is Palantir's headquarters at 100 Hamilton, where it moved in 2007. The company is also in Facebook's old principal office on University Avenue. And slightly offset from the center of downtown it has the lease on a 4,370-square-foot historical building known as the "jewel box" because of its fancy interior finishes. "They're a great company and we think they'll be here for a long time," said Chase Rapp of Rapp Development, which owns over two dozen Palo Alto properties, including 261 Hamilton and 167 Hamilton, another Palantir building. Rapp, whose dad, Roxy, founded the firm 25 years ago, said there are still plenty of opportunities for companies to get started in Palo Alto, but they have to be willing to pay the premium. "You're seeing other markets benefit from the low supply in Palo Alto — cities like Redwood City, Los Altos and Mountain View," he said.



Palantir-Stanford connection

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Alex Karp [[image#102009004]]

Peter Thiel [[image#100846093]]

Joe Londsdale [[image#103291607]]

Stephen Cohen Stanford JD BA, JD BS Computer Science BS Computer Science Palantir Co-founder, CEO Co-founder, board member Co-founder, adviser Co-founder, board member

But those cities lack one essential element: Stanford.

Given the heavy duty infrastructure challenges Palantir faces and the mission-critical nature of its business, access to top technical talent is imperative. There's no better place to be for recruiting than a few blocks from the Stanford campus. According to data from LinkedIn, Palantir is the most popular destination among private companies for Stanford computer science students. Read MoreTech's quest to revive San Francisco's Tenderloin Today's tech workers also prefer a more urban landscape over corporate remoteness. In San Francisco, Internet companies including Salesforce.com, Twitter, Dropbox, Airbnb, Uber and Pinterest established large downtown operations despite the exorbitantly high costs. "Workers want to be near that energy — the food, coffee, train — and want to have all these things they can do outside of work," said Jon Cannon, senior managing director at real estate firm Newmark Cornish & Carey in Palo Alto. (Cornish & Carey represents Palantir on most of its local real estate deals. Mike Courson, who manages those transactions, declined to comment for this story.)

Palantir serves up free meals for employees at 542 High Street, home to its cafeteria. A red sign reading "Private Company Meal" is attached to the window, and a neon blue sign on the inside says "Hobbit House." Other perks, according to people with knowledge of the company's policies, include subsidized housing for employees who live in the neighborhood and help with monthly commuter Caltrain passes for those traveling down from San Francisco or up from San Jose. Employees who drive in get complimentary parking permits. "They're making a commitment here," said Cannon.

The idea is that it's physically locked down and there's no way you can take information out. Avivah Litan Gartner analyst

For Palantir to stay, it has no choice but to spread out. Only one building in downtown Palo Alto even tops 100,000 square feet, and last year city officials limited total annual development in the commercial districts to 50,000 square feet. There's another benefit to having a disparate campus. In doing highly classified work for government agencies, some contracts require the use of particular types of units called Sensitive Compartmented Information Facilities, or SCIFs.

In a 2009 blog post, Palantir described a SCIF as a "building which has been built to be resistant to attempts to access the information within, whether through active or passive measures." The network must be "`airgapped' from the public Internet to prevent information leakage." Read MoreSilicon Valley's cash party coming to an end Avivah Litan, a cybersecurity analyst with Gartner, says qualities of a SCIF building include advanced biometrics for security, walls that are impenetrable by radio waves and heavily protected storage of both physical items and digital data. "They have to make the walls so that no signals can be transmitted out of those walls," said Litan, who is based in Washington, D.C. "The idea is that it's physically locked down and there's no way you can take information out." Having entirely separate facilities makes it easier to clear that hurdle, but even so, the vast majority of Palantir's offices aren't SCIFs.

Balancing act

Historic building that Palantir is moving into this year Mark Neuling | CNBC

For the city of Palo Alto, Palantir's expansion requires a balancing act. Business is soaring and Palantir is a stable company, which is great for the city's coffers. But there is reason for caution. Should Palantir decide to leave town in three, five or seven years, how much will it have changed the complexion of the city? And will the economy be able to quickly adapt? Jones Lang LaSalle addressed the issue in its third quarter report on Palo Alto: "Although the rise in rental rates has signaled economic recovery, it has also led to the closure of local retail who cannot afford to renew their lease or are forced to vacate to make way for new construction," the firm said. There's also the constant dearth of parking "creating animosity between local residents and the tech tenants." Comparisons are often made to Facebook, which spent its early years snapping up space in downtown Palo Alto. By the time the social-networking company left in 2009, it had about 700 local employees and occupied over a half dozen buildings. Small retailers struggled to deal with the departure. Read More Google, Facebook and then...? Hamid Ghaemmaghami, real estate manager for the city of Palo Alto, said in an e-mail that there's still ample diversity with "quite a few" start-ups in town and new ones arriving. He also said Palantir is typically leasing large premium office buildings, while "smaller companies are more agile and they move to locations that offer them a better lease rate structure." Local brokers, however, say Palantir is also in on the bidding for smaller spaces, such as 5,000-square-foot units that would typically be rented by 15- to 20-person teams.

Palantir is doing what it can to build up goodwill with the city and engagement with the community. Employees participate in DreamCatchers, an after-school tutoring program for low-income middle school students, and the company offers a coding class for local kids.

Additionally, Palantir supports city charities, buys food from local restaurants to serve at its cafeteria and pays big bucks to nearby hotels by bringing in so many prospects.

That can all help put a friendly face to the Palantir name, but it won't quell the critics, who miss the Palo Alto of old. Joe Beninato, an entrepreneur and investor, was fed up enough to publish a Medium post in October titled, "Dear Palantir, it's time to move out of downtown Palo Alto." He wrote that the company has "sucked the life out of the start-up ecosystem," by, for example, turning a building that would be a perfect shared working space for 10 start-ups into its dining room.

In an interview, Beninato said he's working on a new company and is running into the same problem as many of his acquaintances. The combination of Palantir putting down large deposits, not caring much about price and offering to sign longer leases creates "a triple threat that start-ups cannot compete with," said Beninato, who sold his last Palo Alto-based company Tello to Urban Airship in 2012.

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