Twin Cities retail stores, hotels and offices saw vacancy rates rise in the second half of last year, signaling continued difficulties for parts of the commercial real estate sector this year, according to a newly released research report by Cushman & Wakefield.

While industrial and apartment properties fared better, the January 2021 Compass Report shows the "economic headwinds brought on by the pandemic had varying levels of impact on leasing and sales volume across asset classes in the Twin Cities," said Mike Ohmes, managing principal for Cushman & Wakefield's Minneapolis-St. Paul office.

He expects debt and equity investments to slowly return this year and hopes "to see increasing commercial real estate activity for all property sectors gaining strength as 2021 progresses."

For now, Cushman & Wakefield, which manages more than 4 billion square feet of real estate globally, is predicting that commercial developers will add 1.3 million square feet in new construction to the Twin Cities later this year.

While apartment- and e-commerce-driven real estate performed well, occupancy and vacancy rates for Twin Cities hotels, retail stores and offices were hard hit during the second half of 2020 because of the pandemic.

Only 33% of all hotel guest rooms were occupied last year and more than 45 Minnesota hotels temporarily shut their doors. That and mounting debt prompted a "slowdown" in sales transactions, the Compass report found.

Local vacancy rates in the office sector rose to 18.5% from 17% during the second half of 2020. New leasing activity plunged 42% from a year ago as "lingering uncertainty about future space needs largely slowed real estate decisions by occupiers," the Compass report said.

Most businesses across the Twin Cities are maintaining remote working arrangements due to the pandemic, leaving downtown office towers and suburban office parks largely vacant. Some businesses have sought rent relief from landlords.

Interviews with property-management firms and building owners also revealed that many office tenants are considering leasing less space in the future.

"The amount of vacant sublease space in the Twin Cities increased by 30% since first quarter 2020, reaching 1.4% of the total market inventory as of the fourth quarter," Cushman & Wakefield reported. That's better than the national sublease vacancy rate of 2.1% of inventoried properties.

One subset of the office sector — medical offices — found itself particularly pinched by the pandemic as Minnesota patients put off routine wellness checks and nonemergency medical procedures, the Compass report found.

"Since the arrival of COVID-19, lost revenue from elective procedures has accelerated changes to business models ... and real estate [down]-sizing decisions began to impact the market in the second half of the year," the report said.

By the end of last year, more than 50,000 square feet of medical office space was up for sublease, the report found.

But even with difficulties, Cushman & Wakefield found scattered bright spots. Several developers are plotting to open new medical offices in the region.

Among them is a new 78,000-square-foot Xchange Medical project headed for St. Louis Park. There are also three new projects aimed for Brooklyn Park, including a new Twin Cities Orthopedics clinic, a Cirtec Medical expansion and a future surgery center via a joint venture between Allina Health and a division of UnitedHealth Group.

The Compass report found other bright spots in the commercial real estate despite the pandemic.

The Twin Cities saw $1.3 billion in apartment-building sales at the end of last year. And vacancy rates for multitenant buildings stayed low at just 3.2% in the suburbs. Apartment vacancy rates in the core cities proved higher, hitting 7.1% in downtown St. Paul and 8% in downtown Minneapolis.

Factories, warehouses and other industrial properties also fared well at the end of last year, with leasing activity rising 24% to 7.5 million square feet. The uptick was driven by the swell in e-commerce shopping.

The rise in online shopping boosted business for and changed the way Target, Best Buy, Walmart and other top retailers do business, increasing demand for fulfillment and distribution center space. As a result, builders added 2 million square feet of new industrial construction to the region, the Compass report said.

Dee DePass • 612-673-7725