Existing buildings under the spotlight

Regulatory pressure, environmental concerns and peer pressure will drive change. By Nicol Dynes.

The focus of real estate companies’ decarbonisation strategies will increasingly shift to existing buildings, largely because of regulatory pressure and environmental concerns. There’s a growing realisation that retrofitting and transforming buildings is the big challenge, but also the great opportunity.

“In the past, the discussion around ESG was about cost, but now it has switched to a debate about value creation. Value-add transformation to green is the best possible strategy,” says Thomas Veith, partner and global real estate leader at PwC.

It’s about value creation, but also value protection, as investors wake up to the very real risk of stranded assets.

“Investors have to factor ESG into their business plans because they might not be able to sell their assets if they are not compliant,” notes Christian Scheuerl, managing director of Neworld Investment Management. “There are so many buildings out there which you can’t do anything with unless you spend a lot of money and devote a lot of energy to upgrading them.”

‘Never rely on a single idea, but be ready to adapt quickly to fast-changing circumstances and market demands.’

Christian Scheuerl, Neworld

Long-term investors are already on board and see the benefits of investing in making existing assets sustainable. “We have a 50-year horizon and that is the driving factor,” says Jens Thale, head of construction at P3 Logistic Parks. “We have assets built in 2000, when no one knew about ESG or climate change, and we’ve had to retrofit them. It costs money, but the return on investment is clear – 100% of our buildings are leased out.”

Every P3 building targets BREEAM Excellent certification as a starting point. The company builds on this foundation using a combination of measures.

“Insulation is easy to do, while other interventions are more complex, like heating the building,” says Thale. “There are so many strategies, technologies and regulations and we need to find the right solution and embark on what will hopefully be the right path. We’re on a quest, a constant fact-finding mission, like everyone else in the market.”

‘Scale can be a disadvantage’

Gathering all the relevant data and understanding that regulations will only become more rigid are the first steps to charting the path forward, but being a large company with resources does not necessarily make things easier.

“Scale can actually be a disadvantage,” explains Thale. “We’re a multinational, so we have to deal with different rules in every country. In Germany, for example, putting solar panels on the roof is very complicated.”

In the residential sector, as well as in logistics, having a long-term vision means planning to protect long-term cashflows and ensuring the buildings are not sitting idle for long periods.

“Flexibility needs to be built in,” says Scheuerl. “Design student housing that can be easily turned into bigger apartments for families, or into senior accommodation. Never rely on a single idea, but be ready to adapt quickly to fast-changing circumstances and market demands.”

A long-term vision is not the norm yet, as there are many who choose to prioritise short-term profit and stick their heads in the sand when it comes to ESG imperatives.

But reality will soon catch up with them, says Anna Tsartsari, co-founder and head of ESG and sustainability at BE Design. “In the next year or so there will be a lot of regulation and more emphasis on embodied carbon, so existing buildings will become more valuable,” she says.

Tenant demands

A combination of peer pressure and tenant demands will force positive change. “We’re already seeing people move out of old assets into new ones because new company policy dictates that they must be in a grade A building with a good EPC rating,” says Stephen Oakden, co-founder of BE Design.

As old assets become stranded, there will be increasing demand for ESG-compliant buildings, not just in the office sector, but across all asset classes.

At present, it is difficult to put a value on ESG-compliance, but it will increasingly be seen as the right thing to do. “Reputation is a word we should throw into the mix, because it will matter more and more,” says Tsartsari. “Being sustainable will pay dividends and peer pressure will deliver positive changes.”

‘In the past, the discussion around ESG was about cost, but now it has switched to a debate about value creation.’

Thomas Veith, PwC

Another crucial development will come from funds changing their rules about what a fundable asset is.

“We’ll see better guidance from the funds because they are becoming better educated,” says Oakden. “They are rapidly specifying their sustainability requirements and, with new regulations coming in, standards will improve.”

Proactive investors

The direction of travel is clear, so at this stage, investors and asset managers must act without waiting for legislation to catch up.

“Regulation is not there yet, the market doesn’t quite know what the impact will be and pricing is unclear,” says Scheuerl. “In the next few years we’ll have a clearer picture of the investment landscape for refurbished assets.”

The risk/reward equation is challenging, but the pressure is there, driven by a mix of legislation aimed at protecting the environment and a market fear of stranded assets and reputational damage.

A new CBRE survey shows the environmental building features that are already having a positive impact on investment decisions and real estate transactions. Good energy performance is what people are most prepared to pay extra for. Features that reduce energy consumption top the list, followed by green building certifications and onsite renewable energy generation.

Resilience to the effects of climate change is also high on the list. “Climate resilience is now near the top of people’s concerns,” says Oakden. “The way forward is a fabric-first policy, creating places that are cooler in summer and warmer in winter.”

The use of sustainably-sourced building materials, such as timber, or the choice of a refurbished building over a new one are much lower on the list at present, according to the CBRE survey.

Attitudes, however, are likely to shift significantly as regulations tighten and peer pressure kicks in.

“Now the UK is behind, the net-zero standard doesn’t exist and everyone is doing their own thing,” says Tsartsari. “It’s voluntary, collaborative work that is not being supported by the government, but by 2030 there will be no choice but to comply.”