Property Week News, analysis, insight and events for UK property professionals
The data is clear: the built environment sector is not on track to achieve the 2015 Paris Agreement goals of a 28% reduction in carbon dioxide by 2030 and net zero emissions by 2050. Despite some positive trends, such as increasing the adoption of renewable energy, electrifying heating and cooling systems and reducing the sector’s energy intensity, the overall carbon emissions associated with buildings have risen by 5% since 2015, according to a UN report.
Aleksandra Smith-Kozlowska
There is no doubt that the real estate sector needs to move faster on decarbonisation if it is to meet the Paris Agreement targets.
Not surprisingly, finance remains a critical challenge and making a strong business case for low-carbon buildings is more urgent than ever. The question is: why is the real estate industry still struggling to clearly articulate the financial benefits of net zero? At first glance, it may seem that the economic upsides of decarbonisation are clear: it reduces future risk, protects asset value and enhances resilience.
In 2017, the Task Force on Climate-related Financial Disclosures stated that “transitioning to a lower-carbon economy may entail extensive policy, legal, technology and market changes to address mitigation and adaptation requirements related to climate change”.
While low-carbon buildings are far less exposed to these transition risks and more likely to perform better financially in the long term, it is challenging to turn this concept into quantifiable metrics; our industry is much more comfortable with assessing risk based on backward-looking variables and historic data, rather than evaluating potential, unprecedented future scenarios.
We need to find a common language between sustainability experts and investment teams
This leads to another issue: markets often prioritise short-term gains over long-term value. Current financial models treat decarbonisation as an upfront cost and do not reflect the future advantages of lower risk exposure. They also do not account for the cost of inaction, which may prove to be an expensive oversight as the transition to a low-carbon economy accelerates.
The market is waking up to this risk. According to the most recent Decarbonisation and Transition Risk in Real Estate Investment Survey from the Urban Land Institute (ULI), 93% of respondents are already integrating transition risks into investment decision-making. Moreover, 86% of respondents say transition risks are already affecting their companies’ portfolio strategies.
Standardised methodology needed
This shows that many leading real estate organisations are actively considering net zero in their financial planning and building a business case for decarbonisation internally. But this has not been enough to truly shift the market. The lack of transparent, standardised transition risk assessment methodology makes it hard to compare risk exposure across the industry and reflect it in pricing, while exacerbating the knowledge gap between real estate owners and managers.
Clearer view: ULI guidelines help building owners factor net zero transition risk into valuation methodology
Credits: Shutterstock / Thx4Stock
To account for the true cost of action versus inaction, we need to be able to quantify the financial impacts of net zero transition on real estate investment models in a consistent way. Recognising the importance of this challenge, the ULI’s C Change Transition Risk Assessment Guidelines set out a standardised approach to integrating transition risks into discounted cashflow (DCF) valuation models.
To support the wider uptake of the guidelines, C Change is developing Preserve, a tool that helps property investment professionals quantify the risks and opportunities associated with the net zero transition. The tool also enables users to undertake a sensitivity analysis across different scenarios to assess and manage ‘value at risk’ over time.
To ensure that Preserve is useful, practical and meets industry needs, ULI is inviting asset owners and managers to participate in a pilot programme to test and give feedback on the tool. To scale up and speed up the real estate industry’s decarbonisation efforts, we need to find a common language between sustainability experts and investment teams.
Integrating the financial impacts of the net zero transition into DCF models can be the key to unlocking the investment needed to accelerate our sector’s emissions reduction. If transition risks and opportunities are priced into investment decision-making, the business case for decarbonisation becomes much stronger – and perhaps could even keep alive hopes of achieving the Paris Agreement targets.
Aleksandra Smith-Kozlowska is director, research at ULI Europe