Sustainability - The Third Fly Wheel for #SpaceasaService

M.C. Escher’s Day and Night - 1938

Sustainability is often thought of as an ‘extra’. This is what we want to do, now what do we have to spend to tick the ‘sustainability’ box? How much am I going to have to pay to keep Greta happy? And so on.

In reality sustainability is actually the third leg of the #SpaceasaService super stool, the other legs being Health & Wellbeing and Productivity. Acting together each of these operates as a flywheel for the other. Each factor maximises the other. If you want space that enables people to be as productive as they are capable of being, then you need to put them in an environment that takes care of their Health & Wellbeing. If you want to take care of people’s Health & Wellbeing then you need to put them in a sustainable building, because sustainable buildings require the technologies that enable excellent environmental conditions. 

Put simply sustainability is where safe, happy, healthy, productive and frugal meet. It is a critical ingredient, not an extra. A part of the core offering in #SpaceasaService.

However, ‘Houston we have a Problem’. According to research by Carbon Intelligence, given the carbon reduction trajectories of different asset classes, by 2035, 50% of buildings won’t be ‘Paris Proof’. I.e they will fail to meet the targets laid down in the Paris Agreement, the legally binding international treaty on climate change adopted by 196 Parties at COP 21 in Paris, on 12 December 2015. The consequences of which will be lower asset values, lower rental yields and stranded assets. 

At a huge scale.

Jean Eaglesham and Vipal Monga, wrote an article in the Wall Street Journal on November 20, 2021, entitled “Trillions in assets may be left stranded as companies address climate change”.

In their words: 

‘The International Renewable Energy Agency has estimated that $7.5 trillion worth of real estate could be “stranded”; these are assets that will experience major write-downs in value given climate risks and the economic transition.’

At a climate conference in Copenhagen in May 22, a representative from GRESB stated that 25% of the assets they report on are already categorised as stranded assets, and only 7% are aligned with the Paris Agreement.

These are worrying statistics. Even if you’re of the more sceptical persuasion they’d need to be orders of magnitude wrong to not be worrying. If it’s your money in these assets, or you’re responsible for other peoples money, it is hard to not be concerned. We could be looking at value destruction at a level unprecedented in real estate history. This is way bigger than a cyclical market crash.

There is though some good news. This is a subject upon which incentives are aligned. Investors are demanding sustainable assets. Given their own mandates they are finding it increasingly hard to even consider investing in assets not considered ‘sustainable’. Regulators, at the local, national and supra national levels, are now wielding increasingly large carrots and sticks. In many cases one can take advantage of tax breaks, preferential loan terms and the like when building super sustainable, but one is also liable to large and growing fines for not reaching certain sustainable targets.

For example, In New York, Local Law 97, sets carbon reduction targets of 40% by 2030, and 80% by 2050, for NYC real estate. To achieve these goals, Local Law 97 sets building CO2 emissions limits and a building that exceeds these limits after 2023 will be subject to a $268 per metric ton (MT) tax.

In the UK Minimum Energy Efficiency Standard regulations (MEES) will start to apply to commercial buildings from 2023, and those below a certain standard cannot be leased. Yes, cannot be leased. It is estimated that circa 10% of buildings will fail this test. That is bad enough but when the target rises as planned by 2030, it is estimated 85% would fail. There is even a stepping stone stage, where you have to achieve a certain rating by 2027.

In short, unless legislation is retracted we are going to see a massive upgrading of stock or a massive number of stranded assets. Most likely we’ll be seeing both.

Of course there are two ways to look at this regulatory ‘burden’. If you’re on the wrong side of it you’ll be mightily aggrieved, but if your assets are high quality, sustainable ones you’ll be in a very strong competitive position. 

In fact, if you have high quality, sustainable assets today you are already in a strong position because the demand for such assets is booming, not least of all because the best companies are already insisting, as with investors, on them. Try letting an unsustainable building to a leading company. You have no chance. But also try letting unsustainable space to modern, progressive, start ups or early stage companies. They in turn are being driven by the wishes of their employees, who more and more are taking a high minded approach to where they work. Besides everything else, sustainability is great Branding.

So investors, regulators and customers incentives are aligned. This is a rare thing in real estate and can only lead in one direction. To succeed you have no choice but to create sustainable assets. So even the bad news, that getting to where you need to be is going to be an expensive journey, is neutralised. Of course all these costs are a bad thing but you’re not alone. All your competitors are in the same boat.

There is also a very considerable long term benefit from the need to create sustainable buildings. And that is that:

‘sustainability is the mechanism by which technology is injected into real estate.'

In order to create sustainable buildings, which as we said above are one leg of the three legged #SpaceasaService super stool, owners and developers will have to install technology into their assets in a manner hitherto unprecedented. They will have to think about the entirety of how their buildings perform, and invest in a panoply of technologies that they most likely would not have considered previously. At long last the real estate industry will be forced to become technologically savvy and in turn will undergo a wholesale digital transformation.

There are even more sustainability forces transforming real estate. In Europe, which is ahead of the other two global superpower blocks, China and the US, there is the EU Taxonomy. This is a framework designed to help define what are considered environmentally sustainable economic activities. At its launch in March 2020 this was stated:

“The COVID-19 pandemic has reinforced the need to redirect capital flows towards sustainable projects in order to make our economies, businesses and societies, in particular health systems, more resilient against climate and environmental shocks and riskswith clear co-benefits for health.’

And right at the core of the taxonomy you will see sustainability linked to the Capital Markets. The point being that money and sustainability go hand in hand. No sustainability = no money. Want money, get sustainable. The bond is defined in Law. At least in Europe, though the US and China are bound to follow, even if in their own idiosyncratic ways.

All of which is a very good thing. Where this is leading is to an increasingly bifurcated real estate industry. There will be assets that are sustainable, that promote Health and Wellbeing, and that enable people to be as productive as they are capable of being. These assets will most likely be operated in a #SpaceasaService manner, where the wants, needs and desires of individuals will be used as key inputs to how spaces are designed and curated. And there won’t be all that many of them. There will also be assets that are none of the above. They will be either in low demand, orstranded entirely.

At one end of the market we will see assets where occupancy and utilisation, satisfaction and Net Promoter Sores will be higher than ever, with commensurate high capital values, and at the other end extraordinary value destruction. In the middle there won’t be much; demand for average work spaces will be very low. Home trumps average easily.

Once this tsunami of change becomes obvious to all, we’ll (hopefully) see a great resurgence in real estate, where all the stranded assets are demolished, rebuilt or renovated. Where we rethink what types of real estate we need, and where we need it. And where we put people at the centre of our thinking.

Sustainability is about more than saving the planet; it’s also about saving us. It’s the driver of change we need to genuinely ‘build back better’. And that’s no bad thing is it?