29 Nov. 2022
It kind of goes without saying that if you run a real estate investment trust (REIT), you’re probably on the lookout for your next real estate property to invest in. But what if, instead of just looking for your next big investment opportunity, you could do some good for the planet at the same time. Sounds naive and maybe a little tree-hugger-ish (we get it). But it’s possible.
There are actually REITs out there doing just this. So you know it’s legit. It’s called ESG investing, and it’s about prioritizing environmental, social and governance in your investing decisions. This should be a no-brainer, but we know it’s not as simple as that. It never is.
We know you exist to turn a profit. And there’s something very tricky about making sustainability profitable. Now for the good news. With the right strategy, approach and technology, ESG investing can be one of those win-win decisions. Kind of like an affogato on a hot summer’s day.
Before we dive in, here’s what you need to know. Buildings are as much part of the problem as they are the solution. (Mic drop). Say what?! Let’s explain. Not only do buildings account for 40% of global energy consumption, but according to the UN Environment Programme, they also contribute 30% of energy-related greenhouse gas emissions. Crazy, right?
This may explain why we could go on and on and on about buildings all day. Now don’t get us wrong. We’re not saying buildings are THE solution to climate change. We understand that this is one part of a much bigger puzzle. But it’s a really important part. Because here’s the thing: Sustainable buildings are key to a sustainable future. You could say they’re our reason for getting out of bed in the morning (that and coffee, of course). And as the reality of climate change becomes too real to ignore, more and more investors are waking up to the importance of ESG.
Robert G. Eccles, professor of management at the Harvard Business School and founding chairman of the Sustainability Accounting Standards Board (SASB), explains that climate change increases risk & financial uncertainty, adding to the appeal of ESG. This is especially because there is also more awareness of the link between ESG performance and financial performance. As Eccles said: “When the CEO and CFO are hearing about sustainability themes from the people who buy and sell their stock, then that makes it become very real.”
Not just a fancy buzzword, ESG is about prioritizing long-term sustainability. It’s about considering the social impact of investments (and not just the bottom line). ESG stands for environmental, social and governance. Let’s elaborate on that a bit. The E for ‘environmental’ refers to the sustainability efforts a company is making. The S for ‘social’ is all about a business’ relationship with its employees and the greater community. And the G for ‘governance’ refers to how a business is run.
When applied to investing (ESG investing), it’s a form of socially responsible investing that uses a set of sustainability-focused criteria to find investment opportunities. And while ESG issues were typically of secondary concern to investors, this is changing. More and more investors are starting to see the relevance and importance of ESG in real estate. And for a good reason.
ESG investing gives REITs a competitive edge. In fact, REITs that have embraced ESG investing tend to have quality tenants, higher occupancy, lower operating costs, and increased accessibility to cheaper capital. ESG property can increase the overall value of the property. There are even studies which clearly show that buildings which are ESG-certified command 21% higher rentals than those that aren’t. Research from Dalton and Fuerst shows that green buildings yield a rent premium of 6.0% and a sales premium of 7.6%.
More and more investors are waking up to the importance of ESG investing. But it’s more than that. The World Economic Forum predicts that the “green premium” associated with REITs’ sustainability efforts may soon become a “brown discount.” In other words, REITs that fail to green their portfolios could face a penalty.
A good place to start is with a materiality assessment. This determines which ESG topics are most relevant to your REIT and your stakeholders. This can be a very involved process, and it considers things like what aspects of ESG your investors are most concerned about. It’s an opportunity to see where to focus your efforts. For example, perhaps investing in an energy-efficient HVAC system could boost your ESG rating.
There are also several ESG benchmark frameworks which REITS can use to assess their portfolios. These include GRESB, which collects, validates, scores and benchmarks ESG data. Then there is the Sustainability Accounting Standards Board (SASB) which REITs can use when disclosing financially-material sustainability information to their investors. There is also the Task Force on Climate-related Financial Disclosures, which can also help with ESG disclosure. Another organization to consider is the Global Reporting Initiative. This can help REITs assess their portfolios and report to a broad set of stakeholders, from investors and clients to communities and even NGOs.
Buildings are key to cutting carbon emissions and energy consumption. And for REITs looking to boost their ESG scores, this is a good place to start. In fact, REITs have an opportunity to invest in making properties greener. REITs can incorporate ESG in investment decision-making, bringing about real change.
A good example of this is the Empire State Building which has been modernized and retrofitted to suit the unique need of the 21st century. It is now considered one of the most energy-efficient buildings in the world. As a result of the buildings’ ESG efforts, it has reduced GHG emissions by 40% over the past decade and has saved more than $4.4 million annually. It’s estimated that emissions will be reduced by another 40% in the next decade. The Empire State Realty Trust, the REIT that owns the Empire State Building, is now considered the most energy-efficient REIT in NYC.
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