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MINNEAPOLIS, MN

Mind the Gap: Minneapolis’ Trophy Office Rental Rates At Historic Highs

Demand for Trophy buildings remains high but tightening fundamentals pushes attention to other asset classes, according to JLL’s 2015 Skyline Review


MINNEAPOLIS, June 12, 2015 -- There’s no space like Trophy space, for office tenants or investors looking to create impact and make an impression. The premiere office towers that make up the Minneapolis Skyline boast—by far—the most expensive office space to rent. Average asking rates are23.1 percent higher—or more than $6.00 per square foot of leased space—than non-Trophy space. According to JLL’s 2015 Digital Skyline Report, average asking rates for Trophy properties in the first quarter of 2015 were $33.72 per square foot compared to $27.39 per square foot in non-Trophy buildings.

While tenants in Minneapolis are paying a premium for Trophy office space, this gap locally is far less than the substantial differential paid nationally. On average across the country, tenants leasing Trophy spaces pay 77 percent more for trophy than non-trophy space.

“There is a certain flight to quality that exists in all markets, including Minneapolis and the Twin Cities,” said Brent Robertson, a Senior Vice President in JLL’s Minneapolis office. “But in Minneapolis the difference in the quality of space is slightly less dramatic than in other markets, like Orange County, New York City and other cities.”

JLL’s proprietary 2015 Digital Skyline identifies and tracks micro-segments of 47 city centers across North America. The Skyline features Trophy and Class A buildings where tenants and investors alike focus demand for office space in a flight to quality and efficiency. JLL also tracks Class B properties, for a comprehensive gauge of the market.

Trophy tenants can expect little relief in rental rates in the near future, especially since there is little in the way of speculative construction currently underway, though there are projects in the pipeline. Additionally, the market is expected to tighten further because of the overall strength and diversification of the Minneapolis business community. This translates into most tenants having little negotiating leverage in their office lease agreements.

The vacancy rate for Minneapolis’ eight Trophy assets remains slightly less than 10.0 percent; for the 15 Non-Trophy assets is slightly north of 16.0 percent. The vacancy rates for trophy and non-Trophy assets in Minneapolis are very much in keeping with those nationally. The vacancy rate is 10 percent for Trophy properties nationally while rates for non-Trophy assets stand at 15.1 percent.

A diminishing “home-team” advantage
If office rental rates are fierce, the price tag to buy an office building is even more so. Economic growth, business expansion and improving market fundamentals have resulted in an increasing demand for Skyline buildings.

Assets within the Minneapolis Skyline are now firmly on the radar of national and global investors, and demand for product within the Minneapolis CBD continues to strengthen, in spite of the low supply of assets currently on the market. The lone Skyline sale in 2014 produced a record sale price for Minneapolis-St. Paul on a per-square-foot basis: German-based Union Investment Real Estate purchased the Target Corp.-anchored 50 S 10th Street for more than $330 per square foot.

“Attractive yields versus top tier cities, low unemployment, the talented workforce, growing population, high quality of life, diverse and dynamic economy and the strong presence of Fortune 500 companies all are key drivers of demand in the Twin Cities,” Robertson said.

Abel Balwierz, Senior Research Analyst, JLL noted that the considerable commercial and residential development taking place in Minneapolis, from the Vikings new stadium to the Wells Fargo towers to the many hotel and multi-family developments and redevelopments is further attracting attention to Minneapolis and the Twin Cities.

From a national perspective, the sheer volume of foreign capital chasing Skyline office deals is having a major impact on pricing. Of the $35.3 billion transacted over the past five quarters across the U.S., 34.6 percent was driven by international buyers. In Houston and Seattle, every office deal transacted during this time period had a foreign buyer, while in Washington, D.C., Boston and New York, offshore capital led more than 50 percent of office purchases.

“International capital is making a long-term impression on the U.S. Skyline. We predict foreign buyers to invest $50 billion into U.S. commercial real estate in 2015, and they appear to be buying for the duration. This will have a major impact on future Skyline liquidity, particularly for Trophy assets in primary markets, where more than half of foreign capital is being invested,” said Steve Collins, international director with JLL’s Capital Markets.

Collins continued, “Going forward, domestic institutional investors will be forced to evolve their strategies, increasingly partnering with foreign investors and diversifying into non-core and non-CBD assets.”

A redefined Skyline
As investors begin to diversify beyond the Trophies for investment opportunities, a growing segment of tenants are also turning away from Skyline buildings in favor of non-core Class A and Class B buildings, inside and outside of traditional Central Business Districts (CBDs). The perception of an “address” has been replaced by the desire for highly customized office space, particularly among fast growing tech and other creative companies.

But the trend does not stop there: today, many companies are trying to mimic tech whether through business strategy, people strategy or even real estate strategy. The growing millennial workforce and their employers are increasingly drawn to architecturally significant Class B buildings located in dense neighborhoods packed with amenities. Among scientific and technical companies over the past three quarters, Class B office leasing surged above Trophy leasing, representing 25 percent of total office leases over 20,000 square feet nationally? Those same companies only leased six percent of Trophy space during that same time period.

“Tech users and other creative firms want unique space – they’re mostly indifferent to building quality as long as they are able to design attractive, creative environments for their employees,” said Balwierz. “They have shown a preference in recent years for leasing lower-cost space in well-located historic buildings or converted warehouses because they can spend more on their space’s interior and less on rent. It allows them to create their own identity.”

Among the notable transactions fitting this trend are Buzzfeed’s 200,000 square-foot lease at 225 Park Avenue South in New York’s Midtown South submarket and Pinterest’s nearly 98,000 square foot lease at 651 Brannan Street in San Francisco’s South of Market District. Local market examples include Aimia’s 54,754-square-foot lease at Butler Square. Mithun, RedBrick Health and Weber Shandwick’s leases at 510 Marquette which total more than 150,000 square feet combined.

Roberston added, “A lot of these B-buildings are on the perimeter of the traditional high-rise CBDs in areas that have more of a neighborhood feel. In turn, they like the idea of adaptive reuse and contributing to neighborhood revitalization. As the gap between Trophy and non-Trophy space continues to grow over the short-term, we actually could be reaching a peak inflection point based on future demand patterns favoring space over building.”

Minneapolis Skyline Compared to US Skyline
In addition to individual market statistics, the JLL Skyline Report also ranked the 47 markets included in the reports according to a variety of metrics, including lowest and highest vacancy in Skyline buildings, lowest and highest net absorption levels in Skyline buildings and fastest growing asking rents in Skyline buildings, among other metrics. Following are notable highlights for Minneapolis:
• The 12th fastest growing rental rates at 6.1 percent;
• The 15th lowest direct vacancy rate for Trophy buildings at 7.8 percent;
• The 4th lowest net absorption for Trophy buildings, negative 55,294 square feet. 

About the Skyline Review
For the first time, investors and tenants alike can now access JLL’s Skyline Review via a digital platform. The fully interactive website will feature JLL’s proprietary market insights regarding office supply, demand, rents, leverage and investment into 47 markets across the United States and Canada, with the ability to compare and contrast individual markets or multiples of markets. In addition, the site will offer videos and infographics. All information will also be available via mobile access. Users can also directly access information about [your local market’s] Skyline.

About JLL
JLL (NYSE: JLL) is a professional services and investment management firm offering specialized real estate services to clients seeking increased value by owning, occupying and investing in real estate. A Fortune 500 company with annual fee revenue of $4.7 billion and gross revenue of $5.4 billion, JLL has more than 230 corporate offices, operates in 80 countries and has a global workforce of approximately 58,000.  On behalf of its clients, the firm provides management and real estate outsourcing services for a property portfolio of 3.4 billion square feet, or 316 million square meters, and completed $118 billion in sales, acquisitions and finance transactions in 2014. Its investment management business, LaSalle Investment Management, has $55.3 billion of real estate assets under management. JLL is the brand name, and a registered trademark, of Jones Lang LaSalle Incorporated. For further information, visit www.jll.com.