‘Green Premiums’ and ‘Brown Discounts’ are the latest buzzwords when it comes to valuing businesses. These terms refer to the recognition and financial rewards given to firms that prioritise environmentally friendly practices, versus the penalties and negative consequences faced by companies that do the opposite. It's an interesting concept that has become increasingly important in today's world, where sustainability is highly valued. Given the current focus on the Government’s recently released net zero plan, we caught up with one of our partners, Phil Winckles, who joined us following our merger with Matthews and Goodman in June 2022, to find out more about his thoughts on the targets and ambitions to decarbonise assets in the commercial property sector.
“Commercial property accounts for almost 40% of global carbon emissions but I am heartened by the fact that the last 5-10 years have been a watershed period for our sector in terms of decarbonising our assets some of our peers believe that we are outpacing policymakers in terms of targets and ambitions
There is a growing tsunami of evidence of the merits of ‘greening’ buildings. There is a growing tsunami of evidence of the merits of ‘greening’ buildings. For example, data from the National Association of Real Estate Investment Trusts (NAREIT)* made the case very compellingly. It concluded that green-certified buildings increase the sales value by 31%, increased rental incomes by 8% and the occupancy rates were 23% higher. Whilst the percentages might vary between various research conclusions, the location and the type of asset, the principal findings tell the same story – ‘it pays to be green’.
“In addition to regulatory catalysts, consider the pressure exerted by consumers’, prospective employees’, and investors’ preferences for ‘going green’. This is probably why many property companies and asset managers are actively discriminating against and pledging that all new buildings will be net zero carbon, or publicly stating that is the direction of travel. Hence the emergence of evidence of ‘green premiums’ and ‘brown discounts’ for non-green real estate assets.
“On 31 January 2022, the Royal Institute of Chartered Surveyors (RICS) released new global guidance which outlined best practices for considering environmental, social, and governance (ESG) factors when valuing an asset or portfolio. According to the RICS, valuers should consider building obsolescence, capex requirements and carbon emissions when valuing a property. Valuers can therefore apply ‘brown discounts’ to assets which are deemed to fall below current and future regulations, and by definition, ‘green premiums’
“Although there is a plethora of research and transactional evidence when considering asset values, I feel disquiet because there appears to be a shortage of empirical evidence of either a ‘brown discount’ or ‘green premium’ across all asset classes. Therefore, perhaps guidance for valuers regarding ESG considerations should be thought of as more of a ‘direction of travel’ than a statement of fact as valuations are based on transactional evidence, together with intangibles such as investor sentiment, further regulations, and their anticipated associated costs.
“Whilst such matters will tackle current issues, as a valuer, I often reflect on how we should include evidence of the full ‘whole life’ impact of embedded carbon. If we are reflecting net zero considerations in our valuations, I wonder when we will start “valuing” the long-term considerations of carbon in a property, especially when comparing the value of redeveloping an asset which minimises the embedded carbon associated with a project, versus demolishing a property and building a new net zero carbon compatible asset, designed to minimise carbon emissions throughout its lifecycle.
“Bearing in mind that renovating a property could save 50 – 75% of embodied carbon emissions compared to building a new one, how can that fact be reflected in a building’s value? Since the current focus on national 2030 and 2050 targets, this fact becomes even more salient as 80% of existing buildings will probably still be in use in 2050. Given that the amount of embodied carbon associated with the construction of a typical new build can be equivalent to 20 years’ worth of its operational carbon emissions.
“For 7-27 years, depending on which net zero deadlines you opt for, 2030 or 2050, it is likely that retrofitting existing buildings, where possible, will have a more positive impact on climate change than building new ones. The question is should this be reflected in financial reporting/portfolio valuations? The RICS has issued guidelines on calculating embodied carbon in construction projects, but how do we assess an asset's lifetime (carbon) value, for example, beyond the construction phase? Surely, extending the lifespan of a sound existing building, which is adapted to meet occupiers’ current and future requirements, will have a lower carbon footprint in the long run than demolishing and building a new one, and therefore, this fact should be reflected in its valuation.
“This issue has been brought into sharp focus with the London M&S Marble Arch development proposal. Demolishing the building would result in the loss of a ‘national treasure’, I think it is a beautiful building. However, aside from aesthetics, some have argued that it would also be an environmental disaster, releasing thousands of tonnes of CO2 into the atmosphere, in the middle of a climate emergency. Whilst not the first to tackle embodied carbon, it has certainly been one of the most prominent. This case highlights an interesting issue. How do we set an empirical financial value on embedded carbon for financial reporting purposes?”
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*The Washington-based organisation which represents REITS in the US real estate market
