Sustainability and real estate investment performance

1. Sustainability and real estate investment performance Dr Paul McNamara OBE Head of Research, PRUPIM Co-Chair, UNEP FI Property Working Group SPR RESEARCH BRIEFING - London, October 1st 2009

2. Agenda • Property – a key part of the problem and the solution • Can investing responsibly in real estate enhance performance? • Approaches to responsible real estate investment

3. Energy use Raw materials use Water use Land 0 20 40 60 80 100 CO2 emissions Solid waste generation Water effluents 0 20 40 60 80 100 Property and Climate Change Being a significant part of the problem…. Share of the built environment in resource use Share of the built environment in pollution emission …makes property a significant part of the solution Source: UJNEP SBCI (2006) , pg 5

4. Property – a key contributor to climate change mitigation Source: IPCC, 2007

5. So – it is hardly a surprise that property is a key focus of attention Community European & UK Government bodies Investors/ Shareholders Property Investors Customers/ Policyholders Activists/Opinion Formers/NGOs Employees Tenants Business Partners/ Suppliers

6. “98% of the debate has focussed on 2% of the problem” “Those with the power don’t have the knowledge….and those with the knowledge don’t have the power.” The twin paradoxes The need is to see this as an investment issue relating to existing stock

7. Can investing responsibly in real estate enhance performance?

8. Behaving ResponsiblyEnhances FundPerformance Behaving ResponsiblyHas No Effect on FundPerformance Behaving ResponsiblyHarms Fund Performance Consider three possibilities…. Fiduciary Dutyto act this way “Moral” Duty toact this way Dilemma Can we invert this logic and find things to do that don’t affect fund performance? Sadly, many start here… Can we find a logic for this?

9. RPI can have a positive effect on property values and returns • Green assets likely to have lower yields, higher values over time • As differences in value emerge, green assets should outperform The more it matters, the more values and performance will be affected

10. Early evidence of possible benefits • Total sample of 9,998 office buildings throughout the USA – 893 “green” • 1,816 offices sold between 2004 and 2007 – 199 “green” • Rental information on 8,182 – 694 “green” Source: Eichholz P, Kok N and Quigley J (2009) Doing Well by Doing Good? Analysis of the Financial Performance of Green Office Buildings in the USA, RICS Research Report, London, March 2009, pp 9 and 28

11. But is knowing about the effects the same as being responsible? • Sustainability is changing the entire context for property investment • Successful investors need to at least understand how sustainability will affect asset pricing and prospective performance • Responsible investors will go further and look for economic ways to work with assets and tenants to improve the environmental and social credentials of assets and, thereby, protect or enhance future returns Responsible property investment is quintessentially active

12. Approaches to responsible real estate investment “investment where social, environmental or ethical considerations are taken into account in the selection, retention and realisation of investments, and the responsible use of rights…......…attaching to investment” (Mansley M., 2000, pg 3)

13. Responsible Investment ‘Engagement’ Screening ‘Best in Class’ Enhanced Analysis Negative Positive Indirect Pressure Direct Action Forms of Socially Responsible Investment

14. Five differences between property and equities Relationship between Investor and Invested Asset Property as a ‘Binary’ (Tertiary?) Asset Property as a Concatenation of Time-limited Investments Differential Liquidity and Transaction Costs Property as a ‘Legacy Asset’

15. Three forms of ‘Engagement’ in Property Engagement with the ‘Legal Structure’ (leases) Engagement with the Tenant (occupiers) Engagement with the Built Structure (buildings)

16. Engagement with buildings • On Site • New building • Refurbishment • Property management • “Situation” • Benefits of landlord expenditures can accrue to the tenant. • Timing, scale and nature affected by the lease

17. Engagement with leases • Leases are socio-cultural in nature • commonly grants occupation rights • more restrictions can reduce attractiveness (rent and value) • Green leases/Memoranda of Understanding • obligations on both tenant and landlord, agreed at the outset and enforced through the term of the lease.

18. Engagement with occupiers • Occupiers are crucial to the environmental and social impact of a property. • The lease greatly determines what can be achieved • ‘Informal engagement’ with tenants • No ‘voting’ rights, as in equities • Dialogue to persuade or educate tenants how to utilise their premises in a more environmentally responsible way.

19. Difficulties with Screening in Property • Limited and uniform investable stock • creates risk for investors • Tenant screening • What to do about mixed occupied assets • Rights to occupy and assign • Capital already invested • Limited availability of data – on buildings or tenants

20. Conclusions • Property is a major element of both the problem of, and the solution to, increasing CO2 emissions • A very major user of resources generally and conduit for CO2 emissions • The lowest cost per unit impact on the problem • Setting aside increasingly stringent government regulations – ‘green’ property investments should perform better • Higher net income growth at lower risk • Savvy investors will profit from this knowledge; responsible investors will strive to ‘do well by doing good’ – especially through improving existing stock