Sustainability is partly about protecting the value of investments. Investors and managers that ignore the issue will be left behind, writes Bill Hughes

Sustainability is now arguably one of the most critical agents of change in real estate ownership. From a fund management perspective, sustainability is about protecting the medium-to-long-term value of a portfolio, as well as about acting in a socially responsible manner. 

Starting with fiduciary responsibility to investors, how is sentiment changing? Paradoxically, this was previously believed to be the very factor holding investment managers back, given the lack of backdated evidence linking sustainability advances and investment performance. However, property is a long-term asset class and there is an increasing awareness among managers that sustainability risk is a real threat. Future-proofing portfolios against this is prudent and necessary to deliver long-term performance.

In addition, more value is being attached to positive corporate social behaviour, so meeting or surpassing rising global corporate social responsibility (CSR) standards is received positively by clients, investors, partners and all third parties. At a practical level, this has been seen as a deciding factor in attracting new capital to our funds, new mandates, as well securing joint ventures, and in converting occupier searches into lettings.

Awareness of these two important factors is being brought about not just through training and education, but also media coverage and the rising profile of sustainability in the boardroom. In the case of Legal & General Property (LGP), it was the first investment manager to fund a bespoke training course on sustainable property investment, which was also promoted to the wider industry. Devised in partnership with the College of Estate Management, LGP’s ‘Sustainability for Real Estate Investment’ programme was created to enhance sustainability awareness, and is compulsory at LGP. Educating the industry on the real issues remains a priority, requiring a cohesive approach to standard measurement of the key aspects.

So how do we start to measure the impact of sustainability risk? While there is now a lack of reliable performance data linking sustainability with investment returns, a number of initiatives are being put in place to address this. Arguably, one of the most noteworthy of these is EcoPAS, which aims to collect data on more than £10bn (€12.2bn) of UK property to chart the correlation between sustainability attributes of buildings, and rental growth and values. Engineered by Investment Property Databank (IPD), key fund managers, valuers and the Royal Institution of Chartered Surveyors (RICS), this project represents genuine industry co-operation. 

Another important factor that has prompted behavioural change is regulation obliging owners of real estate to measure aspects of sustainability, particularly in terms of energy usage. Examples include the Energy Act 2011, with its regulation around Minimum Energy Performance Standards (MEPS) – reported to be initially based on Energy Performance Certificates (EPCs) – the Carbon Reduction Commitment (CRC) Energy Efficiency Scheme, and the introduction of mandatory greenhouse gas reporting from April 2013.

There is also the next draft of the EU Energy Performance of Building (EUEPBD) regulations, which will introduce mandatory Display Energy Certificates (an A-G rating) into all buildings used by the public, including shops, cinemas and shopping centres. This wave of new legislation provides the basis for measuring and influencing energy efficiency, as well as introducing carbon-targeted taxation, which will indirectly place a price on sustainability in buildings. 

Owners quick to reflect the emergence of sustainability pricing in buildings will benefit the most. Indeed, in the past few years, numerous sustainability-related policy and finance initiatives have had an impact on real estate investment in some way. These changes will affect the way in which property value is assessed in the future and, as such, will begin to influence prices today.

However, legislation is still in gestation and there is much to play for in promoting improved behaviour. As a result, the Green Property Alliance has launched its Carbon Incentives and Penalties Project, which is being part-funded by the Green Construction Board and is a comprehensive study into existing regulation and incentives for energy efficiency and carbon abatement, and which will feed back into government on behalf of the real estate industry.

The increasing cost of energy is another factor behind the interest in sustainability. This is resulting in occupiers placing increasing value on energy efficiency, thereby compounding their CSR-led preference for green buildings. There is no doubt that occupier preferences have been moving apace and that this is not only driven by a renewed emphasis upon CSR but also by a more sophisticated approach to the future, in terms of employee retention, especially in competitive labour markets such as London. 

Last, but not least, technology advances are a major driving force in bringing about change.

Renewable technologies are now being installed in new buildings as ‘standard’ equipment, while improvements in lighting technologies and metering allow existing buildings to drive down their energy consumption. Although the Green Deal technology list needs to be developed further in relation to commercial buildings, it shows the breadth of technologies that can now be applied to existing buildings to improve energy efficiency and generate a viable payback. Many refurbishments we have undertaken have focused heavily on the application of the latest technologies in building fabric, as well as in heating, ventilation and air conditioning, in order to both improve the EPC ratings and to reduce long-term operational costs.

In conclusion, until recently the measurement of sustainable property investment performance has not been considered essential. However, this is now rapidly changing as investment managers see the need to understand the potential environmental risks within portfolios. As the paucity of data improves, the importance around understanding sustainability and positioning for the future will grow. 

Regardless of all of this, what we need now is stronger leadership from government and industry to bring about positive behavioural change. This will revolve around incentivising and educating. We believe this will lead to greater understanding of the implications of how government policy, technology, investor and occupier behaviour and, ultimately, valuers are responding to changing circumstances.

The outcome will be greater polarisation in performance between green and grey, and wider differences between good and bad fund managers.

Those that ignore the issue will be left behind.

Bill Hughes is managing director at Legal & General Property