This is the paper presented at the SET conference in Istanbul on 7th September 2011. I would welcome comments!
252 | THE DESIRABILITY OF ENERGY EFFICIENT BUILDINGS
IN THE UK
Tim Garratt , Lucelia Rodrigues
1 Innes England, NG2 Business Park Nottingham, UK
2 Department of Architecture and Built Environment, University of Nottingham, UK
Abstract
Buildings are the most important economical sector in the world but also the major contributors of environmental damage, from the sourcing of raw materials through to the energy used for their functioning and to the disposal of their elements once their life cycle comes to an end. Almost half of the UK’s carbon emissions come from the use of buildings and houses alone account for more than 30% of all primary energy demand. In an attempt to reduce this impact, the British Government is pushing towards the development of energy efficient and zero carbon buildings, both in new construction and in the existing stock.
But how is the market receiving such buildings? Are energy efficient buildings gaining a competitive advantage in the current marketplace? In some countries such as the Netherlands, energy efficient houses reach values 2.8% higher on average than normal houses. In the UK the Sustainability Property Index (ISPI) reveals that, for the properties examined in 2010, regular properties delivered a cumulative total return of -10.8%, compared with -14.9% for more energy efficient ones. This is bad news considering the higher capital investment usually needed to achieve zero carbon buildings.
The current reality in the UK market seems to be that people may not (yet) be willing to pay more rent for energy efficient buildings. As rent and capital value are inexorably linked, whether or not a building is zero carbon does not yet seem to be affecting property value. This paper does not present definitive answers but discusses possible reasons for that through 2 case studies and suggests that the situation may change as energy prices increase and buildings acquire a potential ‘earning capacity’ through the use of renewable energy technologies and feed-in tariffs. The introduction of Energy Performance Certificates has also started to impact on the market. Could energy efficient buildings become a property sector in their own right in the near future, with premium priced accordingly? Or is simply that we don’t yet have an ability to identify from the data whether the market is differentiating?
Keywords: Energy Efficient Buildings, Property Market Value, Sustainability Property Index
1. INTRODUCTION
Buildings are not just the major economical sector in the world but also the shaper of citizen’s lives and the soul of civilisation. On the other hand they are major contributors of environmental damage, from the sourcing of raw materials through the energy used for their functioning and to the disposal of their elements once their life cycle come to an end. Almost half of the UK’s carbon emissions come from the use of buildings, and houses alone account for more than 30% of all primary energy demand [1, 2].
The years 2008 and 2009 were unusual for the British economy as it faced the effects of the credit crunch. Property prices have fallen generally. This masks an underlying problem in the long term housing supply which has not met its demand for many years. As a consequence, the government is committed to increase the rate of house-building by a new target of 240,000 additional homes a year to complete 2 million by 2016 [3]. The commercial market faces similar challenges; the transactional market has seen a significant decrease in the number of deals completed. Finance has been difficult to obtain and as a result of the lack of liquidity, prices have fallen. There has been a general lack of confidence in the market; speculative building has all but stopped.
Simultaneously, an ambitious target has been set for all new houses to meet net carbon dioxide emissions (zero carbon) from 2016 and energy efficient ratings have been set for commercial buildings in an attempt to tackle climate change and meet the targets set by the Kyoto Protocol that came into force in 2005 [4]. In support of these targets, the government has promoted the implementation of building standards such as Building Research Establishment Environmental Assessment Method (BREEAM) or its domestic version, the Code for Sustainable Homes (CfSH). BREEAM sets the standard for best practice in sustainable building design, construction and operation and is voluntary for offices but compulsory for a number of others including domestic buildings.
In the commercial market the Energy Performance Certificate (EPC) was introduced in January 2009. It became compulsory to obtain a commercial EPC certificate for any property placed on the market for sale, let or lease. Alongside the EPC sits BREEAM, which was launched in 1990 as an environmental assessment method and certification scheme that can be used at the design, construction, and refurbishment stages of a building’s lifecycle, drawing on a wide range of benchmarks. These include energy and water use, the internal environment (health and well-being), pollution, transport, materials, waste, ecology and management processes. BREEAM ratings range from ‘outstanding’ to ‘pass’ [5]. It is the most widely use environmental assessment method for building in the world [6]. In the UK, all new builds on the Government Estate and healthcare have to achieve a minimum BREEAM rating of Excellent and all major refurbishments have to achieve a minimum BREEAM rating of ‘very good’. New build and refurbishments in the education sector have to achieve ‘very good’.
The CfSH was launched in December 2006, made available in April 2007 and became a mandatory rating in April 2008. It was made mandatory to stimulate consumer choices and it replaced all other ratings including the EcoHome . All houses funded by the government or its agencies such as the Housing Corporation and the English Partnerships also need to meet the CfSH. Regulations propose that those selling new homes will be required to provide information (a CfSH Certificate) to any buyer on the sustainability of the home [7]. The code is a measure of the sustainability of a dwelling throughout its life [8].
Despite the recession, research published suggests that there is an emerging and increasing demand for energy efficient offices in the UK, although other factors such as location, price and availability of stock are still more important in determining the final choice [9].
General media also shows a trend towards energy efficient buildings. Articles outline the increasing importance of an environmentally responsible approach, viz. “property developers and investors could be losing out to the competition and putting themselves at risk of incurring additional costs by not becoming more sustainable” [10]. The results of a survey suggest that 52% of small and medium sized property firms believe they are risks to their business related to higher operational costs, extra charges and taxes and falling behind competitors if they do not become more sustainable. Reporters suggest that by installing energy efficient features in your house you will “not only be doing your bit for the planet, you will be doing yourself a favour too”, estimating that an average household could be saving up to £2000 per year [11]. A lot of those savings may be due to schemes such as the feed-in tariff which are financial incentives from the government to promote the implementation of renewable energy. The same article suggests that, in the words of Alexander Creed, head of energy at Strutt & Parker estate agency, “at the moment there is no clearly identifiable value to adding solar panels but we are already seeing them make a big difference in Energy Performance Certificates and housebuyers are taking far more notice of EPC’s. As energy bills go up, in the long term, homes that already have panels will be increasingly in demand”.
So how is the property market receiving these properties? Are energy efficient buildings gaining a competitive advantage in the current marketplace? Does property value increase as a direct result of an improved building performance in terms of energy efficiency? Is there a difference between residential and commercial buildings?
This article discusses these issues using as vehicles 2 case studies, one commercial and one residential. Both have been developed to achieve high levels of energy efficiency and sustainability. The names of the developments are not disclosed due to the sensitivity of the data presented.
2. THE VALUE OF ENERGY EFFICIENT BUILDINGS
Measuring the value of a property is, according to property Valuers, an art and not a science. The Royal Institution of Chartered Surveyors (RICS) define Market Value – “The estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arm’s-length transaction after proper marketing wherein the parties had acted knowledgeably, prudently and without compulsion” [12].
Valuing properties involve expressing an opinion, an estimate; the only way a true value can be established is by a sale – a willing buyer, a willing seller, perfect knowledge (proper marketing) and no compulsion. The sale should then be reported to ensure some transparency in the sector but the reporting tends to be limited to some basic data such as location, size and price.
Analysing this data has some inherent faults because some is based on ‘valuations’, others on ‘deals’. Neither is infallible and the market is far from having a perfect valuing system. In addition, it is rare for two properties to be identical. Accurately measuring it and thus deriving a clear picture is virtually impossible. Fundamentally a Valuer will prefer to use the ‘sales comparison’ method to value rather than by reference to costs as this is based on market transactions.
If valuing ‘common’ properties is a complex job, valuing energy efficient buildings is an extremely delicate issue due to multifaceted nature of the projects and the lack of experience in the market. It is only since 2007 that the Investment Property Databank has started to produce a UK Sustainability Property Index (UKSPI). Because the index is so new it has a limited pedigree. It is, however, highly respected in the sector.
The UKSPI involves a sample set of 978 properties with a combined value of £17.5bn. It aims to measure their performance quarterly. The UKSPI reported in late 2010 – and showed that in some sectors ‘less sustainable property’ performed better than ‘more sustainable property’ [13]. Some of the headlines were:
• Over a 2 year period less sustainable property overall increased by 0.1% whilst more sustainable property decreased by 0.7%. (Over a one year period the figures had reversed to 24.3% against 24.1%, but then reversed again over the last six months to 6.1% and 5.8% respectively).
• Since 2007 against a baseline of 100 less sustainable property was at 89.2 and comparative figures for more sustainable retail, offices and industrial were at 86.5, 83.0 and 79.2 respectively.
The test of ‘sustainable’ for the UKSPI is BREEAM “very good” or better, or if passes four of the following five tests: an EPC Rating of A-C (from a ranking from A ‘very energy efficient’ to G ‘not energy efficient’), 5 minutes walk to nearest public transport node (or has cycle facilities or a green travel to work plan), not in a flood risk area, recycles waste or recycles water. It can be observed that this is a fairly crude test – buildings either side of the threshold could be similar, but classified into a more sustainable category or vice versa.
It is estimated that only 7% of the stock surveyed in the UKSPI was classified as ‘more sustainable’. Data was difficult to collect. The core of the study is a group of funds who hold property as an investment (usually the property produces income in the form of rent – which is then capitalised to give a value).
It should be observed that all of the property indexed fell against the Index base of 2007. As mentioned before, the property market suffered significant falls post 2007 and has only just begun to recover. Falls of up to 40% from the peak of the market were reported in various indices. Measuring a part (zero carbon) of the market is difficult in a ‘normal’ market, it is exacerbated in a poor market.
In the residential market it could be argued that there is even less evidence. There is no Index like UKSPI. The lack of supply of ‘more sustainable’ property in the British residential market makes the empirical case difficult to follow or rationalize.
Education of Valuers may also be an issue. In the USA the use of Appraisers has come under the spotlight. In an article in the Chicago Tribune [14] a complaint was levelled at the lenders appraisers that they were not recognizing the ‘worth of green’. A valuation/appraisal relies on comparable evidence – and like in the UK the comparable evidence listings does not show ‘green features’ to any degree.
The RICS issued a Valuation Information Paper in 2009 [15] in which they stated, “There is no universally agreed definition of a sustainable building. However, as the market evolves and as new metrics and regulations are developed and implemented, so a consensus may emerge. There is a general expectation that buildings that minimise environmental impact through all parts of the building life cycle and focus on improved health for their occupiers may retain value over a longer term than those that do not. Sustainable buildings should optimise utility for their owners and occupiers and the wider public, whilst minimising the use of natural resources and presenting low environmental impact, including their impact on biodiversity.” The Valuation Information Paper has a non-mandatory status; it simply sets out to raise current practice.
However, it seems that ‘sustainability’ has not been priced into capital or rental values to date. More sustainable buildings do not appear to be out-performing their less sustainable counterparts. In some cases the opposite appears to be the case.
3. THE COMMERCIAL MARKET
The commercial property market may be a brutal place. Financial economics are at forefront. Value takes preference over worth. Worth will usually incorporate non-monetized aspects. It could take account of ‘ambience’ or ‘feel good factor’ whereas value, as defined, does not.
In Nottingham the largest pre-let office development outside of London was signed in 2010 between developer Miller Birch and occupier E.On. Mark Maisey, the property manager for E.On suggested in speech at a breakfast event that “Sustainability has to be economically viable. We could’ve gone further and introduced even more environmentally friendly systems into the building, but the payback would have been so far down the road that it would have proved to be economically unviable” [16]. The new 9,750m2 office will be built to BREEAM ‘excellent’ standard.
The commercial development studied for this paper was completed in Nottingham in 2009. Its name will not be disclosed due to the commercial sensitivity of the data presented here. Built on reclaimed brownfield land, it is well located, has excellent public open space and achieved an EPC Rating of ‘A’. It has a number of low carbon technologies – photovoltaic cells, adiabatic cooling, maximum use of natural daylight and a sustainable urban drainage system.
Take up of space was relatively slow, predominantly due to a very weak transactional market. By early 2011, the building was 80.2% let. Completed deals have generally incorporated ‘stepped’ rents and have assumed that if all tenants remain in occupation (and do not exercise their break options) the average rent will be at around £18.35 per square foot (psf) by 2016 – 5 years from now. At present the average is below £10 psf.
The building can be compared with others by reference to the Rateable Value (the open market annual rental value of a business/ non-domestic property); last set in April 2010, using an antecedent date for valuation of April 2008. The Rateable Value applied to this building at the date of valuation was £9.00 psf. At the same time, the Rateable Value of prime office rents in Nottingham was of £13.95 psf. The Rateable Value refers to the rental values being achieved and the prime rents are currently in the order of £15.50 elsewhere in Nottingham.
This demonstrates that, although the tenants view the features of the building favourably, this does not translate into them paying a premium for the building.
If we return to the apparent commercial building returns in UKSPI mentioned in section 2 which swing from positive to negative (but by no more than 1%) we need to consider the costs of achieving the higher level of sustainability. In commercial property the costs could be between 5 and 7.5% more. Unless the developer sees a higher rent this makes no commercial sense. There is a dichotomy between those who pay and those who benefit. Developers look at ‘initial costs’ not ‘life-cycle costs’. Developers are not encouraged to install low carbon technologies unless they see a payback. There are not many significant evidence of this at the moment in the market described in this paper. This may be the opposite of what is happening in other parts of the world.
Occupation costs may be the agenda for the future. As energy costs increase occupiers will look at the actual cost of occupancy and, consequently, ‘more sustainable’ buildings should enjoy lower running costs. Sustainability may also become more important in marketing terms. Emphasis on employees improved well-being (often associated with sustainably designed buildings) may also help to drive the market. Will this soon translate into higher rents/ higher capital values in the UK?
4. THE RESIDENTIAL MARKET
Research in the Netherlands suggests that in their housing market there is more transparency partly due to the partial-mandatory labelling system [17]. Up to June 2010 two features emerged: firstly that there was a premium of around 2.8% for the higher grade houses, secondly that the certification was higher in areas of weak demand – i.e. the certificates were seen as a marketing tool. The Netherlands introduced the EPC regime one year ahead of the European Union requirement. They have had over three years of adoption. The authors of the report noted that there was an element of political interference in the model; in areas where there was support for a ‘green’ political party the adoption of EPC’s was higher indicating that this was more about ‘labelling’ than marking superior building quality.
The residential development studied in this paper is also in Nottingham and aimed to become the most sustainable homes in the city. Its name will not be disclosed due to the commercial sensitivity of the data presented here. The dwellings were designed to minimise consumption and maximise energy efficiency, and to achieve a minimum of CfSH level 4. The development was designed specifically for a target market and marketed on the basis of ‘benefits’ not ‘features’. Low costs of energy (predicted to be around £20 per month) were heavily promoted.
There is evidence to show that the CfSH level 4 houses in this development are attracting a premium price. The average selling price so far was £179,950. There is little directly comparable stock, but an average price for similar properties in the immediate vicinity is £129,000. Even allowing for a premium of 10-15% for new over second-hand this represents a significant overall premium of around 20%.
As the development was built in an area of Nottingham which has historically had significant social problems and just recently has become the target of a redevelopment plan, the increase in value can almost certainly be attributed to the low-carbon benefits.
5. DISCUSSION: COMPETITIVE ADVANTAGE?
As a response to the challenges brought by climate change and in an attempt to meet the targets set by the Kyoto Protocol, buildings in the UK should be designed to different levels of energy efficiency, measured by ratings such as BREEAM for non-domestic buildings and CfSH for domestic. In the property market, these buildings have to be evaluated by a Chartered Surveyor who will put a ‘price’ for a sale or rental. If to accurately value a property is generally a difficult job, to set a value to a sustainable and/or energy efficient building by having a differential measured is an extremely delicate issue due to multifaceted nature of the projects and the lack of experience in the market.
At the moment the market does not have enough skilled professionals able to identify and quantify the differentials that sustainable and energy efficient building may have, differentials that often require a higher capital investment. Hence, there is a dichotomy between those who pay the initial cost (the developers) and those who benefit from the long term use and potential savings (the occupiers). In order to achieve a premium price that supports its development, energy efficient buildings may have to become a property sector in their own right in the near future, before they can become mainstream in the UK,
Although the evidences presented here are by no means exhaustive and may not represent the reality in the whole country, they suggest that in the UK commercial market there is little or no premium being paid for energy efficient buildings. On the contrary, in the UK residential market there is an apparent premium being paid by willing buyers. So, in the current market conditions, there seem to be a dichotomy between the residential and commercial markets. Why the apparent disparity?
One reason may be that the commercial market does not have enough access to information about the technologies and strategies involved, i.e. not enough data to prove they work over a long period without a risk of being outmoded before it has reached its payback point. Technology progresses quickly and, at the same time, in many places building lifecycles are becoming shorter. Fund managers are ‘risk adverse’ and are unlikely to invest in something that may have a higher risk factor. There is also a shortage of information about the performance of buildings during occupancy as many developers, owners and/or occupiers are not prepared to uncover potential functioning problems.
In the residential market the availability of properties drive the market. There is a clear shortage of product (i.e. sustainable/ energy efficient homes) and thus demand outstrips supply pushing prices up. However, who is in the demand side willing to invest more for more sustainable homes?
It might be that the level of education and awareness of the issues associated with buildings and their impact on climate change defines who is in the demand side for energy efficient buildings. Or it could be that the domestic market has more enthusiastics who want to be part of a ‘green movement’ towards sustainability. Or it might be simply related to the fact that house owners may be able to directly ‘feel’ the benefits in their pockets, especially with schemes such as the feed-in tariff. In this case, it can be argued that the occupiers, owners or tenants, in the commercial or in the domestic markets, may start pushing the agenda in search for more environmentally friendly and ‘pocket-friendly’ building with an ‘earning capacity’.
But how long would it take for the demand to change the market? Will it be our children who make the change? Can we wait?
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