Office buildings in downtown Minneapolis have rapidly lost value over the past couple of years, but some investors are now seeing opportunities.
LaSalle Plaza, a 30-story stone and glass office tower in downtown Minneapolis, sold this week for about half its estimated tax value, making it one of the first high-profile office buildings to trade hands since the start of the pandemic.
Twin Cities-based Hempel Real Estate bought the tower — at 800 LaSalle Ave. about half a block from Hennepin Avenue — and plans to invest heavily in updates to the building. Some of this will involve upgrading the finishes in the building, but some will be larger projects, including adding an indoor pickleball court in place of a vacant restaurant space. A private car service of a small fleet of Cadillac Escalades will also be available to shuttle renters around downtown Minneapolis.
The sale is a vote of confidence in the future of the city centre̵[ads1]7;s office buildings, but also a reflection of how much damage the pandemic inflicted on the commercial property sector that thrived before it.
“We want to take a strong position [in the downtown office sector],” said Hempel CEO Josh Krsnak. “We feel that now is the time where the market is starting to reset to a basis where the market now makes sense.”
Like other buildings in the city centre. the value of LaSalle Plaza has declined rapidly since the start of the pandemic. In 2020 — due in 2021 — the value of the tower peaked at a little more than $103 million, according to Hennepin County property records.
A source close to the deal said the building sold for $46 million, well below its current estimated market value of $87 million.
Hempel essentially bought the debt from Milwaukee-based Northwestern Mutual, which took possession from the previous owner, the Teachers’ Retirement System of the State of Illinois, so the terms of the deal are not publicly filed.
According to recent city assessment data, the most expensive downtown office buildings in the Central Business District (CBD) are rapidly losing value, draining millions of dollars of property tax revenue from city coffers.
Krsnak said the building was too good to pass up, even though office vacancies in the city’s CBD are now at record highs.
“We’ve been sitting on the sidelines waiting for the market to adjust,” Krsnak said. “Prices started to skim.”
Until 2105, Hempel had a large presence in office buildings in the city centre, and has owned several since 2006. Although it is unclear if and when office occupancy will normalize, Krsnak is far from pessimistic regarding the outlook for the office market in the city.
Krsnak, speaking from downtown Milwaukee, where the company has already invested $200 million in once-distressed commercial buildings, said that while the sector is still struggling, there is significant demand for smaller, high-quality office space aimed at returning employees to the office.
This flight to quality is already well established in downtown Minneapolis, where the race is on to upgrade existing office space in hopes of attracting new tenants at prices comparable to or better than current ones.
Krsnak said the reset in prices has made such buildings attractive to investors who can buy the buildings at enough of a discount to justify major improvements, while still commanding solid rental rates.
Although vacancy in the CBD is around 30%, according to the latest data from Cushman and Wakefield, Krsnak said the market is quickly rebalancing as buildings are redeveloped and existing office buildings are converted to rental apartments or demolished.
He said at least five office buildings are now targeted for residential conversion, and that it will be necessary to suck two million square feet of office space out of the market. With no new office buildings under construction in the CBD, these conversions will help take some of the vacant space out of the market.
Krsnak said that while he has no doubt the building is now a value, it was difficult to convince major lenders to finance the deal.
“I flew all over the country,” he said. “They said ‘office’ is a four-letter word.”
However, he was able to secure financing through local lenders, the company has a 25-year relationship by establishing a complex, “split” capital stack that allowed him to essentially secure two mortgages for the land under the building and the building itself. The lenders include Premier Bank, Tradition Capital Bank and PACE Loan Group, he said.
The mostly Kasota stone building was completed in 1991. It has more than 620,000 square meters of space, not including 60,000 square meters of retail space at street and skyway level. Krsnak said the building is now about 68% occupied.