Saving the planet, one default at a time

CRE sustainability initiatives can protect lenders against risk while helping to reduce the environmental impacts of commercial buildings. 

Programs like ENERGY STAR and LEED, guidelines from the Global Reporting Initiative, and organizations such as the Global Real Estate Sustainability Benchmark (GRESB), which will release its annual survey results next week, have led the way in encouraging sustainable CRE practices.

Real estate owners, tenants and investors have come to realize that the benefits serve a purpose beyond ‘saving the planet.’ Lenders have been slower to get involved, but they should look to their counterparts on the equity side — and a few shining stars in CRE lending — to see that following Environmental, Social and Governance (ESG) guidelines makes good financial sense.

A 2015 University of Cambridge analysis of GRESB data showed that “investing comprehensively in sustainability as measured by the GRESB rating pays off for REITs by enhancing operational performance and lowering risk exposure and volatility.”

Meanwhile, GRESB has been touting the potential benefits of ESG practices as they relate to real estate debt for years, likening it to an ‘elephant in the room.’ Notably, in one study researchers examined 22,813 loans from a large CMBS pool and found that ENERGY STAR and LEED assets had 20 and 30 percent lower likelihoods of default, respectively.

“Lending to borrowers that positively engage ESG principles can go a long way in helping lenders to protect against risk,” Dan Winters, head of North America with GRESB, tells me.

“High performance buildings have attributes that go beyond basic code compliance on energy, water and waste efficiencies at the asset level, while also signaling a higher degree of owner sophistication,” he says. “Financing these types of properties can help lenders protect against loan defaults and collateral degradation, leading to a better portfolio risk profile over time.”

GRESB’s 2015 Debt Report — its first focused solely on debt fund managers — highlighted a select few firms in the CRE debt space that are setting an example for other lenders. One is UBS Asset Management, whose Global Real Estate business shoots for a 20 percent reduction of greenhouse gas emissions and a 10 percent reduction of energy consumption at the portfolio level, every five years, on a rolling basis, for both its debt and equity funds.

Another, ABN Amro, became the first commercial bank in the Netherlands to issue a euro green bond last year, with proceeds tied to mortgages of highly-efficient homes, solar panel loans, and CRE loans for the construction of energy efficient buildings. And Fannie Mae offers slightly discounted loans for multifamily properties meeting their “green financing” criteria. 

But the vast majority of other debt funds were lagging or unaccounted for. GRESB was able to engage just 10 debt funds for its inaugural debt survey, reflecting just 7 percent of the real estate debt fund universe. Why weren’t the others talking? Perhaps because “sustainability risk assessment and management is not yet standard practice in real estate lending,” as the report stated.

The results otherwise presented a mixed bag. Despite a few promising signs, just five of the 10 participants had sustainability objectives at the debt fund level. GRESB also found a “disconnect” showing that although seven of the funds indicated that they had some type of policy addressing environmental issues at the collateral level, just one was actively disclosing this information. And just one participant required borrowers to submit a sustainability-based asset plan.

According to the U.S. Department of Energy, commercial buildings account for 18.7 percent of energy usage, 40 percent of carbon dioxide (CO2) emissions, and 88 percent of potable water consumption in the US. Given the massive impacts on the environment, lenders should consider implementing ESG policies and actively sharing the results. This will ultimately serve as a win-win, protecting against financial risk and reducing the environmental footprint of commercial buildings. 

Al Barbarino is editor of recapitalnews.com