Nevada County’s commerce lags behind in economic recovery
September 25, 2017
Empty storefronts. Vacant office buildings. Proposed large-scale commercial developments that recede like mirages.
It’s tempting to see nothing but doom and gloom when surveying the state of commercial real estate in Nevada County.
But the picture is not dramatically dismal, say local commercial real estate professionals.
Nevada County won’t be mistaken as a monolith due to its geographic and economic diversity. Western Nevada County has multiple distinct retail locations, including the cities of Nevada City and Grass Valley, as well as the communities of Penn Valley and South County. And the office, retail and industrial markets also have distinct factors driving their respective vacancy rates.
One trend that holds true across geography, and can generally be applied to residential and commercial real estate, is that Nevada County lags behind national and even Northern California trends.
Highland Commercial Managing Broker Lock Richards analyzes national and local commercial real estate market activity on a quarterly basis, and in his mid-year report noted that favorable market conditions are not translating into commercial real estate sales. He found western Nevada County lags appreciably in appreciation in comparison to Bay Area and Truckee/Reno in the last few years.
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But Richards says the county is positioned for greater profit potential than surrounding areas.
Nationally, Richards says, the economy is doing well, with inflation still low and values rising. Much of the distressed commercial inventory from the recession has been sold off, with less new building going on nationwide.
“Locally, the recession hit across the board, with values declining 40 percent,” he said. “Vacancies increased, unemployment increased — probably in the reverse order. Those effects didn’t start turning around until the middle of 2015; Nevada County lagged the recovery in the Bay Area for years. We’re just at the start of recovery; it has been really slow, but steady.”
That lag time, Richards said, means Nevada County is positioned for accelerated growth. There are roadblocks, however — the same that plague the residential real estate market.
“Vacancy rates are falling,” he said. “We do have a limited new supply, because the cost to build has gotten so (high) due to codes and regulations and government fees. The risk has been too high compared to the profit potential.”
Some purpose-built projects are under construction, such as Tractor Supply Company, but no spec building — building with the intention to place the property on the retail market for sale.
“Lenders are more restrictive now on spec builds, and developers are being more conservative,” Richards said. “You have to know what your end game is.”
NEW PROJECTS DON’T PENCIL OUT
It’s a challenging time, say local builders.
On a macro level, said Daniel Swartzendruber of Tru-Line Builders, commercial real estate and development follows the housing supply.
“For a while, we haven’t had a lot of residential development happening in the county or cities,” he said. “As far as building new, that just doesn’t happen unless there’s a demand. What we’re seeing right now is a depressed market for real estate. Commercial buildings are going for $120-$150 per square foot when it costs more than that (to build new).”
The lack of residential inventory has a domino effect into the commercial market, Swartzendruber said.
If developers could build new, mid-sized houses that were more affordable, he explained, then homeowners in smaller, entry-level homes would be more likely to move up, freeing up that critical piece of the real estate market puzzle. The rising cost of new construction has been a factor, with the cost to build in California increasing 20 percent in the last five years, he said.
And in Nevada County, Swartzendruber said, when you also add the minimum lot size restriction of an acre and a half, building new midrange housing doesn’t pencil out for developers.
As an example, he said, people might plunk down $100,000 for the land, $30-40,000 for an architect and as much as $40-50,000 in fees.
“You’re pushing $200,000-plus just to get started,” he said. “When you have that kind of capital investment, (you’re) building a bigger house, otherwise it doesn’t pencil out.”
But, he said, most of the buyers out there are averse to spending more than $750,000 for a house, adding, “a lot of that product just sits on the market.”
So, he said, with the residential real estate market stalled out, businesses are averse to relocating, and there is no or little demand for commercial development.
“I think we’re going to see slow development for the next three to five years, until more housing gets built,” Swartzendruber said.
The general contractor predicted more remodeling of existing business space rather than new builds since there is plenty of vacant office space. As with residential builds, it’s difficult to make the numbers work for new commercial projects. Changes to electrical code, for example, have led costs to more than double, and material processes keep increasing as well,
“It becomes a little bit tougher to make something pencil out,” Swartzendruber said, adding if construction costs more than $250 per square foot and existing office space is renting for less than $150/square foot, a bank likely won’t loan the money.
A TALE OF TWO CITIES
A recent uptick in storefront vacancies in downtown Grass Valley, in comparison to a currently vibrant downtown core of Nevada City, was recently reported in The Union and spurred social media discussion as well.
Some commenting saw parking as the problem, while others cited the high cost of renting space, the rise in online shopping and the need for a mix that attracts both locals and tourists.
That situation likely will improve in the near future, however.
“It ebbs and flows over the years,” Lock Richards said. “It’s a natural cycle.”
Richards predicts that the legalization of recreational marijuana will eventually have a major impact on economic growth throughout the county.
“It’s going to happen,” he said, pointing to the city of Santa Rosa, which has been filling its industrial vacancies with “cannabusinesses.”
“We get a couple of calls a week from different cannabis groups because we deal in industrial land and zoning,” Richards said. “Nevada City jumped on (the cannabis market) and they will get the benefit from that, approving uses and a dispensary, so different aspects of that industry can happen there.”
According to Richards, Nevada City has been seeing a dramatic increase in commercial real estate prices, likely because of cannabis, citing a jump in value on one property sold as a potential dispensary site from $500,000 to $800,000. Even if the buyer doesn’t get the single dispensary license the city plans to soon grant, they could potentially use it for other cannabis-related business, such as testing or the manufacturing of edibles, or even indoor cultivation, he said.
“There are not a lot of vacancies in Nevada City — there’s a demand for more space,” said Gary Tintle, who owns a number of buildings in Nevada City and elsewhere in the county.
Tintle owns the long-vacant Alpha Building, which greets visitors to Nevada City as they come off the freeway and turn up Broad Street. He said he put the potential sale or renovation of the building on the back burner for more than a year, adding he currently is working with a potential buyer for the entire 22,000 square feet.
If that doesn’t pan out, he said, he plans to start developing it next spring, breaking it into smaller retail spaces. Tintle said he already has extensive renovation drawings and that he has the city approvals he would need, calling it a “shovel-ready” project.
“There’s a huge amount of interest,” he said. “The Alpha has got a lot of potential.”
SEEING THE UPSIDE
Richards expressed optimism for continued growth in Nevada County.
“In our area, relative to Truckee, Sacramento and the Bay Area, the returns are higher by a couple hundred basis points (used to express differences in interest rates and other percentages in finance),” he said. “For example, cap rates (the ratio of net operating income to property value) are 5-6 percent in the Bay Area, and are 7-8 percent here. Investors looking for higher returns will start to look in our area — there’s more value, more upside. It could improve the future of the commercial industry.”
Richards is convinced that rents will keep creeping up and Nevada County will see more commercial development activity.
“As the population grows, we will attract more retail,” he said. While big national retailers have “bigger fish to fry,” he added, there is room for mid-level retail, such as Kohl’s, at a center like the proposed Dorsey Marketplace project in Grass Valley.
Richards argues that Nevada County’s office vacancy rate — which currently stands in the 13 percent range — is not as bad as it might seem. That percentage is artificially high, he said, because of the former Grass Valley Group vacating its 150,000 square feet of office space in 2014.
“If you took that out of the equation, the rate would be about 7 percent. … Less than 10 percent is fairly healthy,” Richards said.