What’s on the Horizon for Commercial Real Estate?

Overall, 2018 is shaping up to be a solid year for commercial real estate development in Minnesota. Despite rising land and construction costs and higher interest rates, demand for more apartments, new offices and modern industrial spaces remains strong. What stands in the way is the labor shortage facing the construction industry.
 
To better understand the challenges and trends local developers and commercial contractors are facing, Twin Cities Business hosted its annual Commercial Real Estate Forum on May 3 at the Loews Minneapolis Hotel. The forum was moderated by senior writer Burl Gilyard and sponsored by Briggs and Morgan.
 
Joining TCB as panelists were Michael Hille, executive vice president, Kraus-Anderson; Mike Ohmes, managing principal, Cushman & Wakefield; Matt Rauenhorst, vice president of real estate development, The Opus Group; Hans Siefker, president, Greiner Construction; and Bob Solfelt, senior vice president, Mortenson Development.
 
What follows are edited excerpts from the forum categorized by topic.
 

Multifamily

Bob Solfelt: It’s a market-by-market driven decision on whether to keep building multi-family. We have investors who want to continue to invest in the Minneapolis market, so as long as we have people who are interested, we are going to continue to look for sites that aren’t overpopulated. We also see the empty nester as an opportunity to build high-quality apartments and we're seeing more demand for that.
 
Matt Rauenhorst: Job growth drives the demand. If that growth continues, we know that a certain percentage of those new jobs convert into renters. The vacancy rate here is 2.5 percent and in a normal market it’s 5 percent; it takes a lot of units just to get back to 5 percent.
 
We are a little more selective on where we are going to chase new opportunities. There are markets where the rents today will justify new construction and there are markets where it does not. The number of markets that will justify new construction under our model of delivering a high-end product is shrinking, so we are being very strategic.
 

_{From left to right: Michael Hille, Bob Solfelt, Matt Rauenhorst, Mike Ohmes}

Office

Mike Ohmes: Overall, office vacancy rates in Minnesota are in the high-middle teens, which at this point in the cycle feels higher than it should be. Those rates are led by the two CBDs (central business district)—downtown Minneapolis and St. Paul, which are both around 20 percent.
 
Office assets that are having the most success are the ones that are thoughtful about their value proposition. They need to be amenity-rich and be the kind of place where people are proud to put their name on the door. The war for talent and low unemployment rate are real issues that are going to continue…so companies need to make strategic decisions to locate themselves in buildings that are going to help them attract and retain employees. The buildings that haven’t done that are struggling.
 
Hans Siefker: One of the main trends we are seeing across several industries is adaptive reuse. Land is expensive and there so many opportunities already out there. Osborn370 in St. Paul is a good example, as well as Macy’s in downtown Minneapolis.
 

Retail

Michael Hille: It’s a retail apocalypse, or that’s what everyone is saying. But if you look at statistics, the U.S. had over 10,000 stores (that have more than 50 stores in their chain) close last year, but there were more than 14,000 that opened; that’s a net gain of 4,000 stores. Retail sales were also up 4.4 percent over 2016, which shows the U.S. has a pretty healthy retail environment.
 
There were a lot of retailers that didn’t reinvest in themselves, they got pressure from Wall Street to grow and didn’t have enough capital to reinvest in themselves, in IT or innovation.  You look at the retailers that are growing and they are either a high-lux brand or they’re a value proposition retailer—that’s because the middle class is contracting. Department stores are designed for the middle class, those are the ones that are failing. Much like retailers, developers need to adapt and reimagine what their businesses are going to look like going forward.
 

_{Michael Hille speaking during the event.}
 

Industrial

Solfelt: We think the industrial market will continue to be solid. Our Northern Stacks project in Fridley, which is an industrial distribution and office/warehouse business park, has eight buildings that are up and/or under construction and seven are completely leased.
 
Rauenhorst: The old days of go to the greenfield, pick what color stripes you want on the building and that’s industrial development has really changed. It’s very strategic and we think there is a lot of opportunities in that realm.
 
Ohmes: One thing that is interesting to watch in industrial is the convergence of industrial and retail. It’s here to stay and it’s going to transform the way that companies operate, as well as how we interact with the real estate. We are going to see things within five years that we can’t even imagine in terms of how retailers will use their brick-and-mortar space to distribute goods and services.
 

Hospitality

Solfelt: We have added a lot of hotels in the Twin Cities in the last five years, so we are probably going to cool our heels in this market, but we have quite a bit of projects underway across the country. Hotels are creating new flags with unique branding, such as the AC Hotels from Marriott and the Centric Hotels from Hyatt, to get new product into the marketplace.
 
We also are trying to be creative on how we construct buildings. We are doing some pretty innovative modular construction where we are importing whole rooms from Poland for the hospitality market.


_{Hans Siefker speaking during the event.}
 

Health Care/Medical

Rauenhorst: We look at medical as a new form of retail. Medical providers want to get closer to their customers, clients and patients; they are moving away from the hospital systems. We are looking at how we can take a great retail site and rework it into a medical site that is functional and has the elements that medical providers need.
 

Transportation

Solfelt: The autonomous vehicle predictions are affecting the way we look at buildings, such as parking ratios and other uses for parking ramps. I think autonomous cars are going to open up a lot of urban land downtown where there are parking facilities for additional development in the future.
 

Workforce

Siefker: One of the biggest challenges we are having is labor shortages. For every individual joining the construction workforce, five are leaving. We can’t find enough skilled workers in this market to build a product even if there is demand.
 
Hille: We are focused on trying to attract women into the construction industry. It’s something a lot of us can focus on to expand the construction workforce.