Five Reasons to Include ESG in Your Due Diligence Program

Investors, tenants, and buyers are increasingly focused on sustainability and efficiency, creating pressure on CRE professionals to improve ESG metrics at their properties. However, many of those tasked with developing or implementing ESG plans have no idea where to begin. While it may seem that efficiency and sustainability efforts are the purview of asset managers, there is significant benefit to beginning much earlier. The best time to implement ESG planning is during pre-acquisition due diligence. Here are five reasons why.

1. Consolidate on-site data collection to save time and costs. To get a complete picture of the exposure and resiliency of a property, you must consider regional/historic data and site-specific characteristics. Relying exclusively on flood zone maps, weather data, and other published sources provides an incomplete picture. For instance, a property located in a flood zone may have elevated improvements with less risk than implied by flood maps alone. Conversely, a site that is not in a flood zone may show signs of water damage consistent with flooding. The ideal time to collect site-specific data related to sustainability and resiliency is while assessors are already onsite for the Property Condition Assessment (PCA). Adding a resiliency assessment to the PCA is generally more cost-effective and less disruptive than having a separate assessment performed at a later date.
2. Incorporate efficiency and resiliency upgrades into your capital plan. Energy and resiliency upgrades that require capital outlay should be incorporated into your capital plan. By adding a resiliency assessment to your PCA, your consultant can include these measures into your cost tables so there no surprises after acquisition. Furthermore, some efficiency or resiliency measures can be scheduled in conjunction with other capital improvements for significant cost savings. For example, relocation of electrical equipment to higher floors for flood resiliency can be combined with planned renovations. Systems approaching the end of their useful life can be upgraded for efficiency when they are scheduled for replacement.
3. Capture “low hanging fruit” opportunities early. Sometimes, simple, low-cost improvements can have outsized impact on the resiliency or efficiency of a property. Take weather stripping, for example. A small investment in properly sealing windows and doors can yield substantial utility savings. Likewise, installing a $100 metal strap on a rooftop HVAC unit can prevent thousands in damage and liability should that unit be blown off in a hurricane. Early assessment allows you to identify and seize these opportunities as you onboard your properties. This is especially important if you are trying to maintain a “green” portfolio.
4. Identify significant risks before acquisition. While resiliency assessments rarely change the course of an acquisition, they may occasionally reveal major considerations for buyer planning a long hold period. If, for instance, your target acquisition is a multifamily project in an area with increasing temperatures, a ten-year hold could require upgrade of all HVAC units. Sometimes, a resiliency assessment will identify deficiencies significant enough to trigger a retrade, as was the case with a recent hotel project in the Caribbean. The resiliency assessment found that the windows were not capable of withstanding hurricane forces for the area, causing the buyer to request a $3MM price reduction. Whatever the outcome, identifying risks early on allows you to weigh mitigation strategies and make informed decisions.
5. Communicate your priorities to stakeholders. Because investors, tenants, and other stakeholders are concerned about ESG, communication is a key part of any ESG program. By incorporating it into your due diligence program, you can communicate to your stakeholders that you are prioritizing efficiency and sustainability from the inception of the investment with a data-driven plan for improving ESG performance.

Developments in climate science, along with modern due diligence technologies and data modeling, allow us to better predict future climate conditions and building performance.  Armed with this information, CRE buyers can identify opportunities to improve sustainability and resilience before acquisition and develop action plans to improve ESG metrics. Many of our institutional clients are already incorporating resiliency assessments and energy audits into their PCAs.  In the future, we expect this will become standard practice for equity-level PCAs.