Asset owners seeking to make their portfolios more sustainable need to work in partnership with occupiers if they are to hit their goals. This means a change in their relationships and a greater focus on the end user. The bulk of the operational greenhouse gas emissions that come from real estate are Scope 3 emissions. These are indirect emissions generated by sources not owned or controlled by a company but related to its activities. For most real estate owners, this includes the emissions caused by their tenants’ energy use.
Scope 1, meanwhile, covers direct emissions from an asset owner, such as gas used for heating and indirect emissions from the production of electricity purchased by the asset owner.
Christina Hill, global head of asset management and sustainability at PGIM Real Estate, the real estate investment management arm of US insurer Prudential, says: “As commercial real estate asset managers, roughly 95 percent of our footprint will be Scope 3 with the remainder Scope 1 and 2. This is because Scope 3 accounts for whole building data (tenants) and embodied carbon. The magnitude and importance of Scope 3 emissions reinforces the need for landlords to engage with tenants to drive a reduction in an asset’s carbon footprint.”
Andy Haigh, director of climate positive solutions at sustainable neighborhood specialist Grosvenor Property UK, says Scope 3 makes up around 90 percent of the company’s real estate emissions, with occupiers and suppliers making up the largest proportion. “It is therefore incredibly significant. Tackling Scope 3 is the key to achieving meaningful emissions reductions for our company and any real estate business – in comparison, our Scope 1 and 2 are tiny.”
“As commercial real estate asset managers, roughly 95 percent of our footprint will be Scope 3”
Christina Hill
PGIM Real Estate
Sustainability professionals suggest that both real estate and regulation are somewhat behind the curve on Scope 3 emissions and there is significant variance across markets. With the exception of France, where data disclosure is required, Europe operates under strict data protection regulation, restricting landlords from collecting data, which creates a reliance on engaging with individual tenants. In the US, however, landlords are able to obtain anonymized aggregate data from utility companies for multi-let buildings.
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Nonetheless, the traditional adversarial relationship between tenant and landlord does not work when it comes to sustainability. A more collaborative relationship should benefit both parties. Hill says: “Improving energy efficiency and lowering costs means tenants are more likely to stay for longer, thus creating a more stable income stream.”
Green leases, which may include obligations on data sharing and working to reduce energy use, are increasingly being used all over the world to cement a more collaborative relationship between landlord and tenant. “Green leases are also critical to the decarbonization efforts of tenants and landlord,” says Hill. “In the US, our commercial leases incorporate provisions which share the cost of capital for sustainability projects between landlord and tenants.”
Asset owners’ sustainability ambitions are aided by tenants with a similar approach. Corporate occupiers are increasingly setting their own decarbonization targets, and landlords are helping them.
Neary half of the world’s largest listed companies have set net-zero targets, a proportion which has doubled since 2021. This movement supports asset owners who are leading in sustainability but means those lagging will need to raise their game if they are to attract blue-chip tenants.
However, the best way to get tenants engaged is to demonstrate the bottom-line benefits of sustainability, says Simone Pozzato, fund manager for Houston-headquartered manager Hines’ European core fund. “It is important to be able to demonstrate the advantage of operating buildings efficiently and showing tenants costs can be reduced,” he says.
“Some companies understand the importance of reducing their carbon footprint, but all understand reduction of cost. There are plenty of sustainability enhancements where the payback is less than five years. We can make real progress if we manage to translate sustainability into an economic opportunity for tenants.”
Haigh adds that working with suppliers as well as occupiers can help reduce Scope 3 emissions. “In 2022, we ran a SME supplier mentoring program which saw 29 smaller suppliers achieve a science-based target,” he says.
“Providing a free program to them helped provide structure and advice to businesses that are vital to our success, but less able to dedicate resources to a change program of this scale on their own. As a result, we saw a huge jump in suppliers with science-based targets – 52 percent of our UK business’ suppliers now hold one, and over 44 percent now report accurate emissions data to us.”
Collaboration between landlord and tenant should not be limited to the energy and emissions. Hill says: “We see collaboration being taken one step further as corporate occupiers are beginning to engage on social requirements, with employee health and wellbeing becoming increasingly important as corporates try to encourage employees to return to the office.”
Occupiers increasingly view their workspace as an important part of their branding and values, both of which they want to be projected to staff, other stakeholders and to the wider world. This has been one the factors behind a flight to quality in recent years, which has opened up a gap of 5-25 percent in rents for the best and most sustainable office space in markets around the world.
The landlord/tenant relationship is also changing in that asset owners are now more likely to form a relationship with the end-users of their space, whether that is office workers, shoppers or workers in industrial buildings. Engaging with these people is important too, says Richard Hamilton-Grey, head of sustainability for Europe and Asia Pacific at manager Nuveen Real Estate, and it can benefit ESG performance in a portfolio.
“A happy workforce and a happy customer make good business sense for our tenants. Therefore, understanding the needs of those end-users is very important,” he says. “We have observed that office staff engagement is particularly important for furthering sustainability goals. The behavior of office occupiers (recycling, turning off equipment) can have a direct impact and staff can also play an important role in advocating for high sustainability standards in real estate space.”
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