Sustainability Meaning to Real Estate Investors

To value sustainability more accurately costs vs benefit data into decision making, analytical data gathering model needs to be employed. This process may cause confusion among property professionals; therefore assessing property performance on a multiple levels and use of time tested valuation models, like DCF, will act as cornerstone for investment decisions making process. Environmental building certifications (LEED or BREEAM) capture environmental performance not financial data therefore cannot be solely used in investment profitability or health determination. ‘Five types of performance are most important: process performance; feature performance; building performance, market performance, and financial performance’ (Scott Muldavin, RICS 2009). The level of performance assessment to be undertaken in directly dependent on the status, condition, size, geographical location and investor aims. As a most significant performance assessment, that investment decisions will be forecasted on Muldavin highlights ‘building performance (energy use, occupant performance, development costs, etc’). Application of sustainable systems or futures into the development will derive number of benefits: on one side it will mitigate development risk and uncertainty; on the other it will enhance value, position and demand of the building in the market place

For landlords/investors point of view a sustainable building provides an adequate long term yield, as the onus in investment is on wealth creation, and in turn the monetary value. This can be achieved through lease structures. Innovative ways of overcoming what has become known as the 'split incentive' (where the owner pays for the capital improvement and the tenant recuperates the associated operating cost saving) are emerging. One example are the so-called green leases where both landlords and tenants agree on how to share some of the costs and benefits of sustainability upgrades and ensure transparency around performance data. ((Sustainable Property Investment & Management Key Issues & Major Challenges)

Value is created through energy efficient investments in buildings because either:

•• Expenses decrease for a sufficient time to increase NOI. A market cap rate would be used in converting this increased NOI to a purchase price, or

• The energy efficiency investments have not had enough time to prove that they permanently increase NOI. In this case, a slightly lower than market cap rate would be applied based on the potential that NOI will increase in the near future (Sustainable Property Investment & Management Key Issues & Major Challenges)

Lease structure: The structure of the lease between tenants and landlords also has a large effect on whether or not an investment in energy efficiency was made. Not only do leases dictate who benefits from a reduction in energy costs, but they also dictate who pays the initial cost. The leases in place were considered a major factor in whether or not a landlord is willing to make investments in energy efficiency. In the case of a gross lease, the landlord is more likely to make the investment because the landlord may capture energy savings. A lower expense for the building flows through to a higher net operating income and greater capitalization of the income at property disposition. (Sustainable Property Investment & Management Key Issues & Major Challenges)

Owners and landlords may find investments in energy efficiency projects to be more liquid as the improved building performance becomes visible and desirable to the market. Knowledge of these benefits, both decreased volatility and decreased expenses, (Economics of sustainability in Commercial Real estate)

The shoring up of conventional design and the undervaluing of sustainability may ease some of the short-term pain for investors who are heavily committed to unsustainable property, but the long-term pain will only be exacerbated when the tidal shift to more sustainable stock finally arrives. And when this happens, conventional design may no longer be tolerated by anybody seeking to maintain a minimum level of prestige and image. (Sustainable Property Investment & Management Key Issues & Major Challenges)

A lower expense for the building flows through to a higher net operating income and greater capitalization of the income at property disposition. (IFMA foundation 2010)

Sustainable property investments qualify through the following issues:

• Active portfolio management which adheres to the principles of sustainable development

• Inclusion of sustainability issues within the product prospectus

• Inclusion of sustainability issues within the annual report;

Responsible Property Investing (RPI)

‘Responsible Property Investment (RPI) is an approach to property investing that recognizes environmental and social considerations along with more conventional financial objectives. It goes beyond minimum legal requirements, to improving the environmental or social performance of property, through strategies such as urban revitalization, or the conservation of natural resources.’ (UNEP-FI, 2010.What meaning does it hold for real estate investor, can be explained through current sustainability risks/problems and their affect on property value:

1. Resource use:  Volatility to energy and water supply costs will lead to increased replacement, renovation and running costs of the property.

2.   Obsolescence: 
• Physical –  natural wearing out of the building;
• Functional – arises where new tenant needs  existing building is no longer capable to accommodate;
• Legal – where building standards are forced to change;
• Aesthetic – appears when design or specific use features becomes out-dated;        (IFMA, 2010)

3.  Transparency and stakeholder Influences; higher disclosure of energy efficiency and reporting. (Runde, Thoyre 2010) 

As result this leads to decreasing return on investment yields, longer void periods and status of “second best” in the market place. (Dent, Patrick, XU, 2012). Expectations and Reasons for Investments in Sustainable Property:  Fiscal benefits, Improved usability by third parties, Longer economic life, lower transaction period at resale, lower risk and reputation erosion, lower risk of changes in asset value, expected higher returns at resale, Improved competitiveness, command higher returns, decrease of vacancy risk, increased tenant demand, lower operating expenses, corporate social responsibility; (IFMA foundation 2010) Motivators Behind Energy Efficiency Financial consideration, marketing advantage, market differentiator, indicator of management and paradigm shift are the key motivators identified behind energy efficiency. (IFMA foundation 2010)Summarizing (RPI) is ‘pursuit of greater durability, adaptability, usability and efficiency of buildings and the building stock, leading to enhanced productivity, well-being, and economic benefit measured in terms of financial, natural, manufactured, human and social capital.’ (RICS 2008) RPI should be implemented from the property planning, design, and development stages and continually practiced throughout the property lifecycle. (UNEP-FI, 2010)