by Mitch Resnick, Vice President, Multi-Family Capital Markets, Freddie Mac,
Leena Amin, Manager, Multi-Family Capital Markets, Freddie Mac
IT’S NOT EASY BEING GREEN. . . OR IS IT?
Being environmentally conscious is not just for the idealist anymore. Commercial real estate builders, developers, lenders and investors have woken up to the fact that “being green” can have a positive effect on profitability, marketability and value. A recent study conducted by McGraw Hill Construction1 shows an increase in the level of green construction and planning incorporated by builders of new multifamily projects from 2011 to 2013, with the trend projected to continue through 2018. The study predicts that by 2018 there will be a 30 percent increase in builders utilizing over 61 percent of the available technologies and materials to make their projects more sustainable or green.
In today’s market of compressed cap rates, every penny counts. Energy efficiency can lead to increases in profitability, values, marketability and stability. According to the Environmental Protection Agency (EPA), a 10 percent decrease in energy use can result in a 1.5 percent increase in net operating income for a multifamily property. This means that if a 400,000 square foot building pays $1 per square foot in energy costs, cutting its consumption by 10 percent adds $40,000 to NOI. Using a cap rate of 5percent, this translates to potential value boost of $800,000.
In addition to increases in NOI from cost savings, firms building new multifamily projects have reported that a majority of tenants are willing to pay higher rents for green features.
Tenants prefer energy efficient windows, appliances and features that lead to stable and affordable utility bills. Having the ability to market your building as energy efficient is a competitive advantage that leads to consistently higher occupancy and a loyal tenant base. According to McGraw Hill Construction’s 2014 Survey1, 68 percent of renters report a willingness to pay some amount of premium for green features.
BUILDING A STANDARD
Lenders and investors have developed and used many different methods of assessing green properties. They range from formal certifications such as the Leadership in Energy and Environmental Design (“LEED”) to in-house analysis and underwriting. Evaluation criteria usually encompass a range of categories such as: sustainability of building sites, water efficiency, construction/building materials, resource consumption, indoor environmental quality, recycling programs and design. Many of these models, however, set up complex and rigid requirements that may reduce focus on the overarching goal of energy conservation.
In 1992, the EPA established ENERGY STAR to help businesses and individuals save money and protect the climate through superior energy efficiency. ENERGY STAR is best known as the little blue label that signifies energy-efficient products, like appliances and electronics. However, through ENERGY STAR, EPA also certifies top-performing residential, commercial, and industrial buildings. To support energy efficiency in existing buildings, the ENERGY STAR team developed Portfolio Manager, an online tool used to track energy and water consumption, as well as greenhouse gas emissions, in commercial buildings. As of 2013, Portfolio Manager is the leading industry tool with more than 40 percent of commercial building space, or over 30 billion square feet, already benchmarked.
On September 16, 2014, the EPA launched the 1-100 ENERGY STAR score for existing multifamily properties in Portfolio Manager. This score will allow multifamily properties to compare energy consumption with similar properties nationwide. The benchmark peer group is comprised of nationally representative survey data. Additionally, the tool normalizes scores for things such as building activity, energy sources, and weather. Bottom line, ENERGY STAR Portfolio Manager provides a clear and simple score based on a scale of 1 to 100. The unbiased score allows interested parties to quickly understand how a building is performing in terms of energy consumption. A score of 50 represents median energy performance, while a score of 75 or better indicates that a building is a top performer and could qualify for ENERGY STAR certification. Portfolio Manager allows owners to be experts at operating their own properties and puts the emphasis on conserving energy.
The rules are simple. To receive an ENERGY STAR score, users must enter data that accounts for all energy use for all fuel types in the whole building (regardless of who receives or pays the utility bills) for at least 12 full consecutive calendar months. For multifamily users, this could pose a challenge as tenants often pay utilities directly to the provider or in the case of a property acquisition, historical data may not be readily available. However, tides are turning. Both property owners as well as municipalities are investing in managing energy consumption, reducing costs, and protecting the environment. Already, cities such as Austin, Boston, Chicago, New York, Philadelphia, San Francisco, Seattle and Washington D.C. require energy consumption tracking and the leading tool of choice is EPA’s ENERGY STAR Portfolio Manager. With all of the benefits of managing energy consumption, stakeholders are driving change and influencing energy providers.
FREDDIE MAC’S RESPONSE
Freddie Mac considers it a good business strategy to encourage energy conservation. We are currently exploring ways to integrate this practice into our K-Securitization program which, since inception, has provided financing to approximately 4,700 multifamily properties. Today, roughly 80 percent of Freddie Mac’s mortgage purchases are funded through its K-Deal Agency CMBS program. Specifically, we are currently exploring methods of tracking energy usage at multifamily properties using EPA’s ENERGY STAR Portfolio Manager. Eventually, Freddie Mac hopes to encourage multifamily properties to be more energy efficient by tracking their “Green Score,” and even possibly to influence the broader CMBS market by reporting a weighted average Green Score in our K-Deal program. Doing so would provide a clear, simple rating of energy conservation to investors and attract investors looking to deploy funds into green investments.
Freddie Mac aims to encourage heightened awareness of energy conservation throughout the commercial mortgage market and develop a transparent, industry standard Green Score for investors. The goal is to make energy tracking and conservation part of the status quo. Being energy conscious and environmentally friendly supports future stability, growth and profitability. This ultimately leads to happy, healthy homes. It makes sense for us, borrowers, it makes sense for us and it makes sense for the market overall.
1SmartMarket Report. McGraw Hill Construction Report 2014: Green Multifamily and Single Family Homes: Growth in a Recovering Market. https://analyticsstore.construction.com/index.php/downloadable/download/link/id/MC45MjQ1NzkwMCAxNDExMDA0MjI3MTY3NzYxNzA1Njk5MTQ5/