Money supposedly makes the world go round – or doesn't, as we have seen in the last few months. But it does make a big difference to the rate of advance of energy efficiency. So I was in New York recently at a 2-day workshop on finance and energy efficiency organized by the EEB.
The two days of discussions reinforced the EEB's initial conclusions. First, there is no easy answer to how finance can stimulate energy efficiency. Second, innovative financing mechanisms and a change to valuation models will not be enough to drive the necessary market transformation. Externalities must be priced and a value put on energy use, public/private partnerships are critical, solutions must be tailored to the specific context and building sector, and government has a significant role to play.
Regular readers will know that the EEB's first report concluded that business could influence the development of energy efficiency in buildings through three levers: a holistic approach, behavior changes, and financing. In the meeting with our Assurance Group in July, they recommended that we drill further down on finance.
We organized the workshop together with Molly McCabe of the sustainability consultancy HaydenTanner, on October 6-7, inviting around 40 stakeholders. The first day concentrated on commercial buildings, the second on residential.
Impact of the current economic turmoil
Finance has dried up so there are virtually no market-driven real estate transactions being done at this time. Real estate investors must reevaluate the nature of the risks inherent in property investing - including tenant mix and durability - including an assessment of the impacts of future regulation, energy availability and pricing.
US housing starts were off 31% in the past year and down 64% from their peak in early 2006. Economists are predicting another 5-10% drop through the beginning of 2009. Hopefully, this will help switch the focus to energy efficiency in existing properties rather than new construction.
Government stakes in major financial institutions and large mortgage portfolios may point to an opportunity for sweeping policy changes.
An economic stimulus in the form of an energy efficiency retrofit program with a focus on job creation and retention would result in reduced dependence on fossil fuels along with local capital maintenance and reinvestment. Retrofitting 5 million US homes per year at US$ 10,000 per home could result in US$ 50 billion in economic stimulus each year.
Hurdles
The workshop highlighted many familiar challenges: the low priority of energy issues, inadequate education, inertia, difficulties in accessing capital, limited comprehensive and reliable financial data, and principal-agent problems (including split incentives).
Challenges on the financial side are daunting: initial costs, long payback periods, capital vs. operating budgets, risk exposure, the low ratio of energy costs to total operating expenses, high transaction costs, discount factor issues, and the continued inadequacy of traditional financing mechanisms for energy efficiency projects.
Timescales are critical. Many participants said payback periods were much longer than they had initially anticipated, suggesting that energy efficiency measures had an unacceptable return on investment. In that case regulation and/or incentives were seen as necessary to drive investment.
Opportunities
But it's not all doom and gloom. Many participants highlighted the opportunity provided by the current economic conditions. Other opportunities include education and training, monetization of energy efficiency through cap and trade, new investment vehicles, increasing awareness around climate change and risks associated with energy price and availability. Municipalities and utilities are seen as having an opportunity to take center stage through new regulation and new financial mechanisms such as on-bill pay and property tax financing.
Market linkage and behavior
There is a need to link energy efficiency to the costs and risks of energy use. We need an agreed baseline methodology to measure energy use and a means to consistently track performance. Greater certainty and transparency are needed before private actors will be willing to engage further. Investors, owners, tenants, brokers and appraisers are pivotal to the market's development. An international protocol for measurement and verification would be useful. Energy Performance Certificates provide a vehicle to measure, compare, track and enforce efficiency.
Many discussions have made clear that most market participants believe energy efficiency and sustainability are important. Many of the workshop participants consider energy efficiency and broader sustainability skills a competitive advantage in the marketplace. However, energy efficiency has currently taken a back seat in the face of basic survival - tenant retention and paying the mortgage. The price of energy and its perceived risk are modest compared to other financial levers.
There was general consensus at the workshop around the need to reframe the discussion. Reframing the language and concept of energy efficiency to correlate with accepted real estate mores - such as health and safety issues ‑ has the potential for traction. It is necessary to move away from narrow financial calculations and make energy efficiency an accepted and expected part of the regular building inspection process.
Christian, thanks so much for great synopsis. As a result of these sessions, we've seen some traction on a number of fronts: development of new investment vehicles as well as some partnerships developing that combine capital with loan guarantees/credit enhancement. Further, there has been even greater effort to come up with solutions that deal with the longer payback periods. There is no doubt that cap and trade legislation is looming in the United States. Regional greenhouse gas initiatives are rapidly moving ahead - emissions trading in the Northeastern U.S. began at the end of September. This continues to bring increased interest and scrutiny on carbon trading both on voluntary as well as a mandated basis. And while work needs to be done developing baselines, solid protocols and measurement tools - the ability to trade credits will provide one more way to monetize EE measures in the building sector.
Last month the state of California approved legislation (AB 811) that allows municipalities to fund installation of energy efficiency upgrades to existing residential and commercial properties. The City of Berkeley was one of the first out of the gate. They approved issuance of municipal bonds to fund the improvements. Homeowners can apply for "loan" funds to cover efficiency and solar improvements. Loans have a 20 year term and are collateralized via a property tax lien on the individual home.
A couple of weeks ago, I met with with some Foundations who typically work in low income housing and urban redevelopment areas. They see energy efficiency as another tool in helping low income households both reduce their expenses while enhancing their living conditions. The Foundations are looking at ways their funds can be leveraged to increase adoption of EE measures while providing economic stimulus and job training.
Despite the volatility in fuel prices, talk of energy efficiency, climate change and reduced dependance on foreign fuel sources is high. I just returned from the Urban Land Institute's Fall Conference (attended by about 6,000 real estate professionals) where I sit on the Responsible Property Investment Council. As you would expect, the topic of energy efficiency, as well as other sustainability issues was front and center in our council discussions. What I was surprised to hear, was how prevalent and relevant the topic was in the broader sessions. Key trends highlighted in the just published 2008 Urban Land Institute's (www.uli.org) Emerging Trends in Real Estate report was retrofitting for energy efficiency, a reorientation to mixed use and infill, transit oriented development and broadly "going green". As the report says - "If you think oil and electricity costs will plummet and global warming issues will disappear, then sidestepping the additional costs for installing green technologies makes sense." However, as we look ahead - most of us realize, that with rising global demand, lower prices will be short lived. Thinking strategically it is clear that "cutting energy expenses should be a priority in controlling rising operating expenses."
Thanks again to the WBCSD for taking a strong leadership role in helping to provide both a strategic and practical roadmap to what has become one of the key drivers for our global economy and long term sustainability.
Cheers, Molly McCabe
Posted by: Molly McCabe | 18 November 2008 at 09:47 PM
great blog it's good to see someone using a blog for what it is actually meant for look forward to seeing further comments.
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