ESG in property: more than just eco-friendly buildings

Sustainability is now at the core of business decision making across most sectors. Environmental, Social and Governance (ESG) standards are becoming the core driver of how real estate will be designed and valued over the coming years. As Asset Managers, we must not only have an in-depth understanding of how the market views the various sustainability metrics but also advise landlords on how to effectively introduce the new requirements into a building’s business plan.

So far, the real estate sector has been predominantly focusing on the ‘E’ element of ESG, with the energy efficiency of buildings being the key concern in a race for the UK to achieve net zero by 2050. However, it’s important to acknowledge the property industry’s potential to enact social change and impact the health and wellbeing of entire communities through the regeneration of public spaces and the creation of affordable housing. The final component, governance – designed to encourage companies to promote diversity, uphold cultural values, and take care of reputation – cannot be understated. These governance standards should inform the behaviour and decisions of a broad spectrum of property industry players, including landlords and occupiers, if we are to see meaningful change.

A welcome shift

As Asset Managers, our aim is to improve the value of the asset over the course of the business plan on behalf of our clients whether they be institutional or private investors. Historically, our main priority has been increasing rents, reducing void periods, and ultimately driving value. Whilst our core objective has not changed, the way it is achieved is beginning to shift. For many investors, the environmental and social impact of the tenant are as important as the rental income, which means there’s a broader range of factors for the asset manager to consider when looking for potential occupiers. Tenants, on the other hand, are now looking for much more than just a space to work in. For many, a new office is an opportunity to create an enticing social experience for staff, most of whom spent the past couple of years working from home with rare glimpses of office life and social interactions, so the perfect workspace needs to incorporate wellbeing amenities and communal spaces.

Let’s talk about E (Environmental)

Close to 40% of all greenhouse gas emissions worldwide relate to buildings. It is therefore essential that real estate professionals understand the impact they can have on the environment. Carbon reduction may not initially generate higher returns for landlords; however, it will certainly preserve asset liquidity as well as value. All occupiers will have their own ESG targets however, this is essential for service providers, who will be drawn to buildings that reflect and complement these targets, as this is the only impact they can have on their carbon footprint. Based on the latest information on the EPC ratings of currently available office stock across London, we can conclude that approximately 80% of London’s office space will not be EPC compliant by 2030 (requiring an EPC rating of A or B). Bringing office space in line with UK Government guidelines is one thing but assessing how that fits in with occupiers’ broader financial and social requirements, strategy and priorities adds another layer of complexity to an already challenging task. Whilst there may be a large initial cost to bring an older non-sustainable asset to the Minimum Energy Efficiency Standard (MEES) ahead of 2030, this will be offset against shorter voids and lower operational costs.

No more social distancing

The financial benefits of owning more environmentally sustainable assets are clear, with increased rental premiums, lower tenancy void periods and lower operating costs throughout the lifecycle of the building. However, energy efficiency on its own may not be enough to achieve all these objectives as the social/ lifestyle factor grows in importance with WELL ratings set to become essential alongside energy performance ratings such as BREEAM. The provision of end-of-trip facilities, communal break-out spaces, better air ventilation and filtration systems as well as gyms are becoming essential as buildings are no longer solely ‘work’ environments, but also social ones. The growing prevalence of mental health concerns, such as depression, which was experienced by 19% of adults at the peak of the pandemic, is another reason for employers to consider providing healthy and sociable work environments with people’s wellbeing at their core.

The forgotten G

Energy efficiency and state-of-the-art amenities can certainly increase a property’s appeal, but there’s more to ESG than that. As occupiers become more socially and environmentally conscious, one element of ESG tends to be forgotten – Governance. Landlords and occupiers alike have begun to focus on ensuring an asset has the right mix of tenants as well as providing a firm code of ethics and transparency. Poor governance can lead to corporate incidents, such as Volkswagen’s emissions scandal, which caused significant financial and reputational damage – the latter being harder to quantify.

Looking ahead

The onus is on landlords to not only provide sustainable buildings, but also help create work environments that benefit occupiers from a variety of other perspectives. Our experienced asset management team is well versed in helping businesses implement their ESG objectives, which often start with property but are rarely confined to just bricks and mortar.