Investor focus on sustainability is no longer an option but a strategic imperative

With buildings accounting for around 40% of global carbon emissions, Environmental, Social and Governance (ESG) initiatives have become an ever-growing part of the corporate real estate conversation. Corporate commitments to net zero are bringing greater urgency to decarbonize real estate, with a drive towards sustainable spaces, regulatory mandates, and new technology to support the built environment. Commercial real estate (CRE) investors are focusing on where sustainability will have the greatest impact, from social responsibility to risk mitigation, from improving rents to increasing asset values.

The current landscape

According to a recent Verdantix survey, 87% of real estate asset managers in North America indicated that they had a decarbonization plan in place. Investors are facing a more complex landscape today than ever before and must consider:

• Societal impact: Investors who are more socially conscious will have an opportunity to not just invest with impact but attract tenants who are more mindful about sustainability and ethics. The greenhouse gas emissions emitted by CRE buildings are directly contributing to global warming and climate change. While being aware about societal impact is not a new concept, ESG scores have brought much needed transparency to the market, allowing for properties with higher scores to be a differentiating factor throughout the asset’s lifecycle.
• Regulatory environment: Increasing pressure from regulations are driving investors to measure, report, and disclose their sustainability practices. These requirements, for example the SEC’s climate disclosure rules and California Senate Bill No. 261, are impacting how investors think about approaching their current and future investments. For investors, this can mean more paperwork, but also more value created across their portfolio. The World Green Building Council estimates that green buildings could achieve 7% higher asset value.
• Tenant expectations: When doing due diligence on a new property, investors will need to consider several factors to not only help attract and retain tenants but enhance the overall value and marketability of the asset. Tenants are actively seeking buildings with green certifications, for example, LEED and WELL Building standards. Investors who design and operate with a focus on energy efficiency and provide transparency on sustainability metrics will further enhance the relationship with their prospective and existing tenant base.
• Stranded assets: In Europe, investors face the risk that their assets will become devalued unless a shift towards sustainability is prioritized due to continued regulatory pressures. Deloitte estimated 76% of offices in Europe can become obsolete by the end of 2030 if they are not made more environmentally friendly. This has downstream impacts, including diminished market value, a decrease in rental value, and lender reluctancy to provide financing to those assets that are at risk of being stranded.
• Net-zero standards: Investors, including REITs, are committing to net zero – producing at least as much energy as it consumes over the course of a year. Many of the top real estate owners and investors are committing to net zero, including: Nuveen, Allianz Real Estate, AXA Investment Management, PGIM Real Estate, Brookfield Properties, to name a few. Organizations like SBTi have begun to create Net-Zero Standard to help guide organizations to setting targets.

The future of sustainability

What’s next for sustainability is still taking shape:

• Green leases: Green leases are expected to save office buildings $1.7 to $3.3 billion in utility charges annually, while shifting the owner-tenant relationship to one of increased collaboration. Investors who are seeking to save costs but also reduce the carbon footprint will benefit from green leases by splitting the responsibilities around the asset’s sustainability goals and objections. For example, a landlord requirement may be to enhance the overall energy-efficiency of the property, while tenants mandate is focused on electricity preservation and management. The need for increased data sharing and reporting improves communication and consequently positively impacts tenant retainment.
• Construction: When deciding to retrofit or develop a new building, investors have numerous choices when it comes to designing an environmentally friendly asset. Installing solar, as well as green roofs and walls to reduce the need for AC, or rainwater harvesting systems, are all being incorporated into new building construction. Designing a smart building can lead to energy savings up to 35% according to the U.S. Department of Energy. Investors must be diligent, as there could be additional upfront costs, regulatory hurdles, and required knowledge to navigate the implementation of these sustainability practices.
• ConTech: In 2023, over $3 billion was invested in ConTech. Investors, owners, and developers are leveraging ConTech to help reduce costs and improve risk monitoring in both the land and property development phases, and well as enabling more tech-enabled operations for greater efficiency expenditure. By embedding technology earlier in the design process, stakeholders can have a greater chance of capitalizing on their investment and reaching their sustainability goals.

Key takeaways for navigation

Key steps investors can take:

• Monitor and evaluate ESG performance: Reporting ESG performance for key stakeholders, including lenders, shareholders, tenants, and internal executives, is one of the many reasons that investors are focused on tracking their efforts. By leveraging benchmarking tools such as GRESB, investors can evaluate performance against industry peers and evaluate areas for improvement. The ability to aggregate data at scale for reporting transparency and auditability will continue to progress as SEC climate disclosures come to market, and other global acts including the CSRD. Staying on top of the changing regulatory environment is critical.
• Implement digital transformation initiatives: Understanding the opportunities and challenges around the integration of smart building technology within a portfolio’s strategy will lead to greater awareness of how building tech will impact sustainability efforts. From better data and reporting to decreased energy usage, the applications of smart building technology are widespread. Weighing the benefits against the unknowns – including the upfront investment, security and privacy issues, and the long-term ROI – are part of the investors initial assessment prior to building out a smart technology roadmap.

Ultimately, having a sound cross-functional strategy in place is critical for meeting sustainability targets. Executive sponsorship, having the right internal skillsets and external partners in place, and shaping a vision from the onset will lead to greater probability of success and environmental impact.

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