Financial risk in underestimation of the cost of net zero in the real estate sector
According to the World Green Building Council, the real estate industry significantly contributes to carbon emissions, accounting for 35% of global energy consumption, 38% of energy-related carbon emissions, and 50% of resource consumption. By 2060, the industry's overall carbon footprint is predicted to double.[i]
According to the Urban land institute, an industry research firm, property groups across Europe risk the prospect of taking significant write-downs unless they act quickly to cut carbon emissions from the buildings they own. According to the ULI, European property owners, investors, and valuers have neglected to factor in the expense of making the transition to net zero, which has led to a widespread overvaluation of commercial, retail, and residential real estate, which it refers to as a "carbon bubble."
ULI Europe CEO Lisette van Doorn says, “All buildings have transition risks, and we know that some leading market players have started to consider the costs of decarbonisation and started to act on it. However, we need to bring the wider industry on board, and spread the knowledge to speed up the process and prevent the bubble from bursting. We need to get the whole industry moving faster by building a strong case for a collaborative approach to transform existing stock.”[ii]
There have been initiatives taken toward decarbonising real estate. Still, some accuse these of having mostly been motivated by wealthy property owners who want to increase their stock's energy efficiency in order to draw tenants who will pay a premium. Despite the fact that many large property owners and investors have set their own goals for reaching net zero over the next two decades, the vast bulk of real estate has remained largely unaffected. Rising interest rates and inflation, which have delayed office sales and reduced the amount European property owners are able or willing to invest in bringing buildings up to code, will also hinder efforts to decarbonise.[iii]
It leaves the real estate sector and businesses with significant real estate portfolios in a quandary, in that current costs of decarbonising in the current economic climate may be too much to bear, but delaying may result in a loss of value in the long term.
Incentives for decarbonising real estate holdings
The Carbon Risk Real Estate Monitor (CRREM) is funded by the European Union and is the recipient of Environmental Finance’s ESG data initiative of the year award in 2022. The goal of CRREM is to provide a tool that will enable investors and property owners to analyse how exposed their assets are to stranding hazards using data on energy and emissions as well as legal requirements. By establishing routes for scientifically based carbon reduction, CRREM is challenged to assess the risk and uncertainty related to the decarbonisation of commercial real estate, develop a body of methodology, and empirically evaluate various scenarios and their effects on investor portfolios.[iv]
VGP is a pan-European developer, manager and owner of logistics and semi-industrial real estate; they adopted the CRREM tool to support their 2025 net zero goal. They described their experience using the tool: “we have been working with the CRREM tool to analyse and fine-tune logistic-specific pathways particularly in order to reflect the subsector specifics (e.g., different energy consumption profiles for light industrial users versus ecommerce fulfilment versus ‘straightforward’ warehousing versus cooling facilities, etc.). Our plan is to ultimately adopt the CRREM tool in order to be able to identify and separate the stranded versus non-stranded assets for the coming years in order to ensure our portfolio remains compliant with the 1.50C GHG pathway. We have assessed different target-setting options using the CRREM pathways and also consider pathways from other sources and providers. Although further work remains, particularly in order to reflect the subsector specifics, we believe that CRREM provides a good reference framework for setting emission reduction targets for our real estate portfolio.”[v]
While the technology is now only applicable to the European Union and the United Kingdom, CRREM is expanding its reach to encompass residential real estate and other significant markets in the Americas and Asia Pacific.[vi]
Understanding and accessing the potential benefits of ‘greening’ a real estate portfolio may also help to sway decision-making towards decarbonisation. McKinsey has identified several opportunities that could add value on the route to a net zero building.
- Local energy generation and storage. Companies in the real estate industry can produce and store energy using their physical presence. For instance, building owners have started installing solar panels and batteries, which has helped to stabilise power systems and lower the price of sustainable energy.
- Green-building materials. Players can investigate the benefits of modular building, tall timber, green steel, and other cutting-edge materials and technologies that may offer extra advantages like quicker and more affordable construction.
- Extra services on-site. Companies can develop new revenue streams by offering on-site services that support occupiers' sustainable choices, such as vehicle charging, green facility management, and other on-site services.[vii]
Whilst the economic climate remains unsupportive of investment in green objectives, identifying opportunities that will ease the financial burden of decarbonising is paramount in ensuring a swift and sustainable transition.
[i] World Green Building Council- The Net Zero Carbon Buildings Commitment
[ii] Urban Land Institute- ULI sets out standard disclosure method to deflate ‘carbon bubble’ in current real estate values and prompt action
[iii] Financial Times- Industry body warns on property sector’s failure to cut emissions
[iv] CRREM- Carbon Risk Real Estate Monitor
[vi] Conservice ESG- How CRREM mitigates risk for real estate
[vii] McKinsey- Climate risk and the opportunity for real estate
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