Does an emissions scandal await the real estate sector?

In September 2015, news broke that Volkswagen (VW) had been selling cars in the US that had a so-called "defeat device" installed in diesel engines. It could detect when they were being tested and change performance to improve results. 

The German carmaker admitted to cheating emissions tests and it soon became clear that this was not just about US car sales. VW later admitted that about 11 million cars worldwide had also been fitted with the same software. 

Modifying an environmental test and masquerading as ‘doing the right thing’ will obviously have no meaningful impact on the environment. You would expect that everyone would have learnt lessons from the car industry’s shameful episode.

However, it is possible to identify another industry that is attempting to self-regulate its environmental standards in a bid for green bragging rights. And that industry is real estate.

So, what have the notorious VW emissions scandal got to do with the real estate sector?

Firstly, much like the car industry, the real estate sector has one of the highest carbon footprints of any sector. It currently contributes 30% of global annual greenhouse gas (GHG) emissions and consumes around 40% of the world’s energy, according to the UN Environmental Programme. It is therefore imperative that the policies adopted by the sector are effective.

Secondly, the real estate sector does not seem to be regulating its emissions or pathway to net zero in any co-ordinated fashion. There is a danger that participants are relying on lazy metrics that are easy to achieve and will lead to no real reduction in GHG emissions.

Analysing real estate companies from around the world, investing in many different types of real estate, means we are well-placed to identify hollow promises made by industry participants. A number of companies are focusing on metrics of their choosing in a bid to claim they are making a positive impact.

Many of the industry’s supposed “green credentials” are simply ineffective and are likely to lead to no real reduction in GHG emissions.

Why are the sector’s green credentials problematic?

It is clear from reading numerous sustainability policies and company presentations that the industry’s focus is almost exclusively on ‘operational’ carbon rather than on the ‘embodied’ carbon.  This is a short sighted and controversial methodology.

“The climate emergency is not a game and we can’t just spin our way through it,” said Joe Giddings, co-ordinator of the Architects Climate Action Network (ACAN). “We need to think about where our materials come from, how they’re made and interrogate the whole supply chain – from construction to demolition and reuse.”

Operational carbon comes from the daily usage of a building, from actions such as heating, lighting and cooling. This is different to the embodied carbon, which is the emissions created in the process of manufacturing materials required to construct the building. The key components of any development are concrete and steel, both of which produce significant carbon emissions.

It is therefore nonsensical that a building can claim to be ‘green’ or net zero carbon (NZC) when it ignores the environmental cost of building the asset. A building cannot be truly net zero until it has paid back or offset its initial carbon debt (the embodied carbon) and has also considered what happens to building at the end of its life.

The key issue for the real estate sector is that there is no widely adopted market mechanism which aims to reduce embedded emissions. On the contrary, by focusing on operational energy consumption, the owners of many buildings are not even aware that new construction is contributing to the climate crisis instead of helping. 

Operational carbon vs embodied carbon

Embodied carbon represents an increasing share of the overall lifecycle emission of an asset. Embodied carbon is expected to represent 74% of total emissions from new buildings between 2020 and 2030 and 49% of the total emissions between 2020 and 2050, according to a 2017 report by the United Nations Environment Programme Finance Initiative. This proportion is only going to increase as the energy grid becomes increasingly decarbonised with the rise of renewables

Another significant ”green” credential that we have issue with is that of offsetting. This is a way of paying for others to reduce emissions or absorb GHGs to compensate for your own emissions. A number of companies are given credit for reducing their operational carbon by simply offsetting their emissions. While we are conscious that some companies must resort to this policy, for the majority this is simply a lazy route to a green credential. Offsetting does not deal with the source of the problem – the inefficient building.

Are developers the problem?

In theory, the most sustainable building is the one that is not built. The data suggests that focusing on the efficiency of the existing building stock will have a much greater impact than developing new buildings which are operationally NZC.  However, it is easy to see why the real estate sector is not arguing for a commitment to stop building; development is in the sector’s DNA.

A number of industry observers argue that we should not be constructing new buildings unless it can be demonstrated that there is an absolute imperative for it to be built (the "necessity test"). This would lead to a much-needed focus on the efficiency of the existing building stock.

Most of the new greenfield office building developments in advanced economies would fail the necessity test. Hospital, schools, and in some areas, residential assets would most likely pass the test. A low carbon real estate industry needs to commit to apply the necessity test.

How can the real estate sector prevent itself from sleepwalking into its own emission scandal?

The major impediment to success is the lack of agreement within the sector as to what sustainable metrics to focus on. As you would expect, there are vested interests which can make for difficult discussions. Unlike the rating of a corporate bond which neatly analyses factors such as interest coverage ratio, net debt to earnings before interest, taxes, depreciation and amortisation (EBITDA) or loan to value, sustainability has no clear definition.

In addition to the focus on operational carbon there must also be a ‘whole life cycle carbon’ assessment for new developments, something that regulators in the Netherlands have forced on developers since 2013.

The sector must move forward together, only then will significant progress be made. From being the focus of controversy in 2015, the car industry is now becoming a case study for reducing GHG emissions. For the real estate sector, the direction of travel is clear, act together to enact positive change before it is too late.