With the impact of inflationary pressure still reverberating throughout all sectors of the economy, metro Milwaukee’s retail real estate market has experienced its own shifts.
Between the rise of interest rates, construction costs, operating expenses and taxes, both landlords and tenants – specifically local users that don’t have the amount of capital or credit that national brands have – are feeling the strain.
Demand for retail space has generally remained strong in the wake of the COVID-19 pandemic and rent rates have followed an upward trend since 2023. The market’s overall vacancy rate is 7.5%, with an overall rental rate of $15.59 per square foot, according to a third quarter Marketbeat report by Cushman & Wakefield | Boerke. For comparison, at the end of 2022, metro Milwaukee’s average asking rent was roughly $13.
Downtown Milwaukee in Q3 this year had an overall vacancy rate of 6.8% and an overall average asking rent of $18 per square foot. Wauwatosa was the tightest submarket with a 1.7% vacancy rate and $29.88 asking rent per square foot.
“(Rent) rates are at a historic high – landlords are getting rates that five years ago would have been unbelievable,” said Mike Testa, business development manager and senior brokerage associate at Milwaukee-based Ogden & Co. “That being said, the costs are increasing significantly.”
The costs of property taxes, insurance premiums and building maintenance have risen at a rate faster than rents have increased, meaning “the actual amount that landlords are netting is probably stagnant or flat,” said Russ Sagmoen, partner at Colliers | Wisconsin.
On the tenant side, retailers are dealing with increased costs of rent, labor, food and goods as well as higher interest rates and construction costs for buildout projects with dollar figures that might be double what they were five years ago.
Tenant-landlord ‘disconnect’
To help offset the burden, tenants are asking landlords to help pay for those projects, adding yet another expense to the landlord’s book.
“I think some tenants are under the misunderstanding that ‘the landlord will build it for me.’ No they won’t, they absolutely will not,” said Marianne Burish, executive vice president at Transwestern.
This is where financing the buildout of a space has gotten challenging in the dealmaking process, said Sagmeon, because “the landlords don’t have it in their budget and for the tenants, it’s risky to spend $1 million” building out a restaurant, for example. In some cases, the landlord might be open to the tenant improvement allowance requested, but in exchange, they’ll ask the tenant to pay more in rent, which is likely already off the table.
“There’s a little bit of a disconnect between landlords and tenants between what the actual cost is and what’s affordable,” said Testa.
There are some improvements that landlords are more willing to subsidize than others, such as installation of a kitchen hood, LED lights and new bathrooms, because they’ll increase the value of the building. However, “they don’t want to contribute to buying your coffee machine,” Testa said.
Tenants opt for turnkey
High construction costs have contributed to a drop in new retail construction and a surge in demand for second-, third- and even fourth-generation retail spaces – those that were previously occupied and already equipped with necessary infrastructure. Requiring minimal investment, these spaces are attractive particularly to local and small business tenants that are looking to keep overhead low and are often willing to do some of the improvement work themselves, said Testa.
“We’re seeing people taking spaces you’d never normally see them take because, it’s, ‘hey we have to do something, we have to get a unit open or we have to relocate or expand or contract,’” said Sagmeon. “They’re taking space they never would have in the past.”
Conversely, newly built grey box or shell spaces have been slow to lease, especially those located on ground floors of a mixed-use residential buildings. Even downtown Milwaukee’s newest, shiniest apartment towers, Ascent (opened in 2022), The Couture (opened in April) and 333 Water (opened in June) have yet to fill their commercial spaces. Other mixed-used projects in the market with available retail space include Freshwater Plaza, R1ver, Nova and Rhythm.
“It’s not that they’re not beautiful, well-built buildings, it’s just that sometimes the prices and triple net structures are a little bit different than a traditional brick and mortar,” said Testa. “Also, buildouts can get more expensive and difficult there because if you’ve got 12 stories above you, you’ve got a long way to go to install a hood and ventilation system.”
Some of Burish’s clients are landlords of new mixed-use buildings with yet-to-be-leased retail spaces, in areas that are more likely to attract local over national tenants. Her words of advice to them? “You can’t have it all.”
“You can’t have your rents, you can’t have your personal guarantees in the forms that you want them and you can’t expect the tenant to build the space out from scratch without a material contribution from you. They can’t do it or they won’t do it because it feels too risky,” she said. “If they’re solid financially but they just don’t want to deploy their capital like this, especially if it’s a type of use that’s got high residual value, … throw more cash in the deal, help them out. That’s what it’s going to take right now to get those deals done.” n
