Entering the global spotlight relatively recently, Environmental, Social and Governance (ESG) policies and obligations are designed to make businesses and organisations think about their impact on their sectors, communities and the wider world. Encompassing areas including sustainability, diversity and inclusion, anti-bribery and anti-corruption, this focus on ESG poses a challenge for those operating in the real estate sphere.
Recent developments in the sector have included the issuing of green bonds and sustainability obligations in financing for transactions. Investors are seeking more environmentally-friendly targets such as positive energy and zero carbon effect assets. Leases are more frequently incorporating ‘green’ clauses focused on tenants’ sustainability efforts and utilities use, and social and governance clauses seeking to ensure tenants are operating and behaving ins socially responsible way. In the construction world too we are seeing ESG-focused practices and policies changing the way businesses work and engage.
What’s driving ESG progress in the real estate world?
A prolific contributor to global greenhouse gas emissions, real estate is right up there with the transportation and energy sectors in terms of environmental impact. There are, however, easy ways to improve our impact, including those measures already outlined above. We’re also seeing yields start to decrease for those unwilling or unable to provide their ESG credentials, providing a huge driver for investors and developers to participate in change and improvement in the sector. Demand drives supply in this case, and the demand is increasing for ESG compliant assets.
Legal constraints are also prompting a shift in the way the sector views ESG considerations. For example, in France we have seen a number of laws aimed at improving businesses’ ESG impact, including:
- Prohibitions on leasing non energy efficient flats (in the residential sector);
- Obligations to reduce the building consumptions for logistic, retail, offices, with clear targets and sanctions (Décret Tertiaire, updated in 2021);
- Net zero artificial land target (Law on Climate, August 2021); and
- Construction efficiency targets.
With the global attention commanded by ESG issues only set to grow, we can surely expect further legislative methods to be introduced, aimed at improving our impact.
So how can investors improve their ESG impact?
While most investors and other real estate players are currently focused on the ‘E’ in ESG, the social and governance areas are lagging behind. Though progress has been made, diversity continues to be an issue in the sector, and needs to be addressed. In France, a charter with engagement in favor of parity and equality between males and females has been suggested in a white paper authored by a women’s real estate network, and is intended to be adopted by major organisations. Besides, the most advanced organisations operating in the real estate industry impose charts to their contractors or tenants to improve local and diverse employment. Thinking about the composition of company leadership and ensuring a diverse candidate pool is also vital to drive progress for organisations. Those that take the decision to focus now on improving the way they manage their increasing social and governance obligations, or those of their partners, will find themselves at a distinct advantage when the sector as a whole turns its attention that way.
What’s standing in the way?
A lack of understanding: While knowledge and understanding of ESG requirements and remedies are constantly improving across the property sector, many businesses are unsure of how they can apply this to their own operations. Education is going to be key to helping embed ESG into real estate transactions.
A dependency on others: From contractors to tenants, investors and developers may not always have total control over how their assets are used. This is why it’s so important to understand how ESG considerations can be built into contracts and made a part of daily operations.
A high initial outlay: The costs involved in buying, building or refurbishing an asset that is sustainable can be substantial. Many investors may feel that the high initial cost isn’t worth it. However, with a sustained global focus on ESG this may make more investors agree that it’s worth paying now, to avoid potential fines and paying to make buildings compliant later on.
What does the future of real estate look like when ESG is a part of every transaction?
Time will improve knowledge and spread the cost of initial investment for investors and developers. Once organisations have a better understanding of not only what is needed, but why it is so important and how they can achieve high ESG standards, we will see policies and processes aimed at ESG compliance becoming embedded in transactions. We will see:
- Main investors/companies/individuals with net zero carbon emission portfolios or even positive energy real estate assets;
- Cleaner construction sites with increasing recycling of materials, as well as wider use of renewable materials;
- Processes to make sure that ESG criteria are taken into account prior to any investment;
- Updated standard agreements: acquisition documents, financial documents, contractor agreements, leases, asset management agreements, and any other standard documentation; and
- The S (social) and the G (governance) aspects better taken under consideration.
In both summary and conclusion, the real estate sector is one based on the built environment. It therefore stands to reason that we should be building smarter, better, more sustainably. Enshrining ESG values into the way we do business and manage transactions will ensure we are having a lasting positive impact on not only the assets we buy and build, but the environment that they stand in. And that is definitely something worth working towards.
