Why it might be time to consider green finance
Over the past few years, banks have come under scrutiny and pressure to support the transition to net zero carbon. So far incentives have been more carrot than stick and this is already having an impact but that doesn’t mean it will stay that way.
Bank of England Governor Mark Carney together with other central bank leaders set up a task force looking at climate risk – the Network For Greening the Financial System. It is voluntary, seeking to share best practice and experiences and nudge the industry in a more environmentally aware direction. This coupled with the work done by the Task Force for Climate-related Disclosures is already stimulating change.
"We have begun to see banks, as part of their credit risk assessment, looking at the environmental impact of the assets and the businesses that they are funding and what the consequences of climate change could potentially be for those businesses,” says Helen Fysh, Senior Associate at Trowers & Hamlins.
Also, the banks want to see that the businesses they are potentially lending to are addressing some of the issues they may face as a result of climate change. This has resulted in the development of a number of tools to assess the businesses risk.
"It’s potentially a huge stick to get people to pay attention and look beyond their own footprint and their own business,” says Katharine Lewis, Partner at Trowers & Hamlins.
Positive impact loans – loans for projects which have good sustainability and social impact credentials have been making headlines. The benefit for the borrower is that there is an overall reduction in borrowing costs if the money is used for social good or to reduce environmental impact. To benefit from the cost reduction the borrower has to meet certain targets, the downside is that this requires additional reporting for which there is a cost attached.
One of the biggest regional funding deals so far this year was a green loan. Bruntwood SciTech secured a loan of £185 million for the next phase of its Circle Square development in Manchester and refinancing 1.7 million sq ft of its portfolio.
Under the terms of the loan and to benefit from lower borrowing costs, the offices developed have to meet a BREEAM excellent rating. But more than that they have to get their tenants to sign up to a “Green Memorandum of Understanding” in which they commit to support ongoing environmental good practice.
There are already energy efficiency standards on buildings – anything rated F and below, with a few exceptions is unlettable – but this moves the thinking beyond developers own carbon footprint to that of their tenants. It is a big shift. While it potentially limits the number of businesses that could lease the space, for businesses without good sustainability credentials it could also limit their choice of buildings.
Banks are looking to rebuild trust after the financial crash and this could be seen simply as a ‘halo-polishing’ exercise but the climate strikes – the Greta Thunberg effect – is pushing environmental impact up the agenda.
"To stay relevant for banks it’s no longer just about generating shareholder value and this is something that prevails through all different types of industry,” says Fysh.
The shift in thinking to one in which value and impact have a broader meaning is also reflected in two small changes to regulations that have come into effect this year. The corporate governance code has been tweaked to put the onus on directors to consider the long-term sustainability of their businesses as well as value generation for shareholders.
And, this month pension trustees fiduciary duties have changed. Trustees will now have to consider environmental, social and governance factors alongside their other material financial considerations when investing.
Given that big pension funds invest heavily in UK real estate it has significant implications for the industry.
“This change, the obligation on pension fund trustees to consider the sustainability aspects of how their funds are invested means they’re now going to have to stop and think about more than longevity or yield,” says Neil Biswas, Partner at Trowers & Hamlins. “Increasingly they are going to have to consciously select property assets which are going to be more sustainable because they have to demonstrate that this is part of the decision process.”
Already, some US funds expect buildings to meet certain BREEAM and wellness standards before they will consider buying. If you are a developer looking to build and sell on, it makes good business sense to ensure your buildings meet very good environmental standards, even if it isn’t currently obligatory.
New buildings only form a relatively small proportion of the total building stock in the UK. It is easier to construct a green building from scratch but trickier to improve the energy efficiency of existing, older stock. With tougher regulations on fire safety likely to be recommended in the post-Grenfell consultations landlords could find themselves having to invest both for safety and energy efficiency improvements.
For developers like Argent, sustainability is already high on the agenda but for businesses where it isn’t, legislation might not be long in coming. The Government is now out to consultation on increasing the energy performance standards that non-domestic rented properties must achieve. One proposal is that premises must achieve at least an energy performance certificate (EPC) rating of “B” by 2030; a material change to current standards.
The liability for meeting these higher standards will inevitably lead to disputes. The capex could be substantial with many tenants already struggling to meet rental payments,” says Biswas. The latest Government initiative towards tightening regulations is the Future Homes Standard consultation paper which was published on 1 October to introduce more stringent Building Regulations standards. The Government plans to introduce new Regulations mandating low carbon heating; minimum ventilation standards; and exemplary energy efficiency in new builds. It is hoped that the Regulations would be effective from 2025.
Tougher regulations to one side, the incentives for making property and property businesses greener are growing whether it is the ability to secure funding, a buyer or a tenant.