Implementing ESG best practice must be tailored to each country, property sector, market and sub-market, tenant profile, investment period and local regulatory environment, among other factors. For that reason, LaSalle has energy and sustainability task forces in each region and for its public securities business to lead its ESG efforts.
In North America, a bifurcation in regulatory policy on environmental issues exists between the progressive federal policy in Canada and the lack of current federal support in the US. While there remains an ongoing political debate in the US regarding the occurrence of climate change, both countries have state and local policy initiatives. In conjunction with local regulations, market forces from both investors and occupiers drive implementation of ESG in real estate. While local policy issues, for example annual energy benchmarking disclosure, make it easier to collect the data to form baselines at the asset level, LaSalle drives forward energy efficiency and sustainability initiatives as best practice across all markets and property sectors.
From the acquisition and due diligence process to asset management activities, it is important to identify ways to optimize ESG efforts across the investment strategy. Recently, we implemented an ESG checklist during acquisition, which summarizes an acquisition’s energy and sustainability credentials (such as Walk Score and certification status), current operational issues (energy spend and recovery), market factors and incentives (occupier perspective and utility rebates), and local regulations. This checklist is then translated into an overview of sustainability in an investment committee memo and forms the starting point for setting an asset-level ESG baseline.
Once an asset is transitioned into the portfolio, the asset management and sustainability teams work hand-in-hand to influence daily operations, capital upgrades and work with tenants. As a component of the annual budgeting process, a Property Sustainability Plan is completed to reflect each asset’s current sustainability performance and identify opportunities for improvement, such as certifications and building systems audits and retrofits. These plans are then input into the Environmental Management System (EMS). Together with the ongoing energy, water and waste benchmarking conducted in the EMS, the progress of each asset against its sustainability plan is continually updated to ensure continuous improvement.
Environmental legislation has been a driver to sustainability for a number of years, with both country-level regulations and EU directives. Energy Performance Certificates (EPCs) are the most visible; each country has implemented this directive in its own way, which has led to confusion since there is no consistency in the methodology for assessing an EPC. The Netherlands and the UK have led the way by setting minimum EPC ratings for lettings. This has been effective in pushing landlords to make energy efficiency improvements. However, other countries lag behind and are yet to fully implement the requirement for an EPC. Compliance aside, interest in ESG from institutional investors across Europe continues to gain momentum, whether large Dutch pension funds, UK local authority pension funds or French government pension funds.
To formalize our own approach in the region, we launched a European Sustainability Strategy in early 2017. This sets out a four-year road map to ensure ESG risks and opportunities are considered at every decision point. For example, EPC ratings, building certification and flood risk, and other material issues are reviewed at various points throughout the acquisition process. The Investment Committee then tests each new acquisition against a set of Sustainable Investment Principles to ensure assets are bought with either good sustainability profiles or with improvement potential.
During the hold period, there is an opportunity to maximize operational performance. This has the double benefit of reducing an asset’s environmental impact and delivering savings to tenants. The European Sustainable Management Programme operates across our operationally controlled assets, allowing us to collect environmental data, set reduction targets, engage with onsite teams to identify improvement projects, and track and report progress against targets. For our standing assets, sustainability is built into the annual asset business plan.
During the planning process, risks such as low EPC ratings can be mitigated and capex implications accounted for in investment appraisals. At this point, a review is undertaken of opportunities to upgrade an asset either by seeking to obtain certifications like BREEAM, HQE or DNGB, or to install renewable technologies such as rooftop solar arrays, both generating income for investors and delivering cheaper and cleaner energy to tenants.
Development and refurbishment projects are a key opportunity to upgrade the portfolio and are all carried out in line with our Sustainable Development and Refurbishment Standards, which set out best practice aspirations and minimum standards across 12 areas of environmental aspects such as energy, waste, water and flood risk, as well human issues such as health, wellbeing and community engagement.
The firm is also chairing a new green lease working group for the UK Better Building Partnership, which aims to share best practices on green lease clauses and ensure tenant adoption.
ESG efforts in Asia are driven primarily by market force requirements for sustainability by end users that are, in part, reinforced and encouraged by increased regulatory requirements. With operations across multiple countries with differing market and regulatory forces, ESG efforts must be customized to each asset. The Australian market tends to be the most robust in terms of the penetration of sustainability into the real estate market. The synergistic relationship between market-driven forces and continued fine-tuning of government regulations provides a positive feedback loop, which results in year-on-year improvements to the overall sustainability of the real estate market. Singapore is not far behind Australia, albeit it is a more a regulatory driven process.
Japan’s market forces continue to increase, supported by an improved regulatory environment. We expect to see strong positive movements for sustainability in this market. In China, especially in the major cities, end-user requirements for sustainable residential projects and a demand to improve indoor air quality in offices is raising the general visibility of sustainability.
These differing market and regulatory forces across the region mean the focus is to ensure we prioritize continual improvement of sustainability factors into strategic plans, both at the acquisition phase and the operational asset management phase. At acquisition, a sustainability section is included in investment committee memos to indicate the current state of sustainability of the potential investment, as well as an outline plan for future improvements. In operational asset management, sustainable improvements are driven through a number of initiatives. First, we create bespoke, annual energy and sustainability management plans for each asset, since the financial viability of sustainability improvements for an asset depends on the specific local market and the intended hold period. Initiatives are implemented that either improve the financial performance (or are financially neutral) and/or those that protect from potential downside impacts. In leasing, a full range of potential green clauses have been created, which can be tailored to each market to push sustainability on a market sensitive basis. Initial successes at Australian assets as well as a start in Singapore point to this being an area of focus.
The rollout of an Environmental Management System has enabled a quicker analysis of problem areas allowing us to take corrective action sooner. Monthly updating of energy, water and waste data has been a major change to previous yearly data collection. The old adage ‘what gets measured, gets done’ has allowed for the beginnings of a good competitive dynamic for integrating sustainability into everything we do.
Active participation in regional sustainability forums such as the ANREV Sustainability Committee and the GRESB Asian Benchmark Committee is critical to ensuring we remain at the cutting edge of real estate industry sustainability issues in the region.
Real estate securities
ESG factors can have an impact on investment performance and should be integrated into the analysis when evaluating real estate securities. An investment valuation process provides a framework to incorporate and consider ESG issues. A best practice approach includes:
–A commitment to clients to strive to deliver superior investment performance.
–A commitment to adhere to the UN Principles for Responsible Investment.
–Identifying ESG issues that represent risks and opportunities, which can have a positive or negative impact on investee companies. Each company’s approach to managing ESG issues has the potential to impact its value in the market and thus the value of clients’ investments.
–Determining an Intrinsic Value for each stock, taking into account a multitude of factors, not any one of which can be relied on exclusively to drive the performance of a stock.
ESG factors could be impactful in:
1. the analysis of a company’s projected earnings (rental rates achieved, return on cost on new developments)
2. determining the risk/required return for a company’s real estate, business model, and management capabilities; and
3. determining the long-term growth potential of a company’s earnings.
Encouraging investee companies to manage ESG issues appropriately is in the best interest of clients and society as a whole. Our Engagement Guidelines provide a framework to seek and encourage ESG disclosure related to the approach, practices and performance of the real estate companies in our investment universe. Through our engagement, we encourage these companies to identify ESG risks and opportunities material to their business; manage their ESG risks effectively; enhance their corporate disclosure of ESG policies and performance and seek industry best practices on ESG issues.
This article was sponsored by LaSalle Investment Management. It appeared in the Sustainable Investing special supplement that accompanied the October issue of PERE magazine.