Responsible Investment

Having identified a wealth of opportunities to improve the sustainability profile of our assets, we need to assess their relative benefit in order to ensure a meaningful return on investment.

Cost Benefit Analysis of Sustainability Improvements

Prioritising sustainability opportunities
A key component of our active risk management approach, the Cost Benefit Analysis of Sustainability Improvements (CBA) work we are undertaking in 2009 focuses on quantifying and prioritising these opportunities. The CBA tool will estimate the cost of sustainability improvements, assess for each opportunity the potential to improve the building’s operational performance and analyse the associated savings to both the occupier and our clients. This information should help us to constructively engage with our occupiers to jointly implement sustainability measures that will benefit both parties.

Identifying risks and benefits
We have streamlined our Sustainability Rating System (SRS) by focusing on assessing the impact of 20 key sustainability characteristics. SRS assesses our assets according to their sustainability profile and allows us to carry out comparative evaluation of buildings with varying characteristics. Any risks to our clients can then be effectively managed.

Increased risks for less sustainable assets
The basic premise behind our position is that assets which perform poorly in terms of sustainability and energy efficiency in particular will, over time, become less attractive to occupiers as the government introduces fiscal incentives and penalties to encourage carbon reduction and increased sustainability in general. Delivering good investment returns on a sustainable basis is our principal aim, and we believe that acquiring higher yielding investments where the sustainability of the asset can be improved should increase likely returns.

Hermes Emissions Trading Scheme
To understand and address the impacts of the Carbon Reduction Commitment (CRC) regulation, we have, working with Upstream Sustainability Services, developed the industry’s first internal emissions trading scheme, the Hermes ETS. Having run the scheme during 2008 we can now share our findings.

Understanding the impacts of CRC
The CRC, a cap and trade scheme, will assign a price to carbon emitted by buildings. Owners of buildings will be required to estimate their carbon emissions for the year and will have to buy carbon credits to offset these emissions. If, following reconciliation at the year end, insufficient credits have been acquired, the owner will have to buy further credits. Any surplus credits can be sold to those who underestimated their emissions. It is anticipated that those having to buy further credits will be penalised. In this way CRC will impact financially on owners and occupiers alike and act as both a ‘stick’ and a ‘carrot’ to drive carbon reductions. The Hermes ETS estimates the cost or benefit of the CRC scheme to our funds to be in the order of tens of thousands of pounds in the first phase which runs until 2013. This figure could increase significantly after this phase, potentially to hundreds of thousands of pounds.

The results of the Hermes ETS enable us to fully understand the impacts of this new regulation: the scale of the financial costs, the cash flow impacts and the administrative requirements to implement the scheme. This exercise allows us to inform our clients, who will be responsible under the scheme, of the risks they face and to provide solutions on how to transform such risks into opportunities. We have also shared the knowledge gained with the property industry and government, to help foster a better understanding of the issues and the most cost effective way to implement the scheme.

Sharing the findings from our first year of trading
The exercise has shown that the CRC will be complex to implement within the property sector and involve a significant administrative burden. However, participants who project their emissions appropriately, reduce their carbon footprint and are well positioned in the league table could benefit financially from the scheme.

During the first phase of the scheme, the administrative burden is likely to outweigh the cost if we seek to allocate costs/benefits to individual assets and occupiers. After three years, when the scheme will be capped and assuming that the price of carbon will rise, the position in the league table will have a greater impact on participants and the financial impacts are likely to increase significantly.

Informing our investment strategies
Our overall strategy is to implement sustainability improvements that will add value to our assets. In order to ensure that sustainability features in all of our investment decisions, we document all improvements identified from the SRS Sustainability Benchmarks, EPC’s, flood risk assessments and our RPM programme in our Business Plans and Property Management Strategies for individual properties. This allows both Investment Managers and PM’s to make informed decisions over the life cycle of individual assets and focus on areas that we believe will have a positive impact on value.

Energy Performance Certificates
We aim to adopt sustainability best practice on a portfolio-wide basis. We were the first major investor to undertake asset energy ratings across our entire managed portfolio, six months in advance of the regulatory requirements and now have approved EPC’s for every one of our directly managed assets. (see chart right). We are using the recommendations from the EPC rating process to inform future investment decisions.

Energy Performance Certificates for all of our directly managed assets – Update graph with latest results.

Industry wide benchmarks
We participate in a number of syndicate benchmarking services to monitor our internal performance and compare it against our peers: Upstream JLL’s ‘The Third Dimension’ and Operational Performance Benchmarking and the IPD/IPF Sustainable Property Index (ISPI).

We are working closely with various industry bodies to ensure that the sustainability metrics used in these systems are compatible and the outcomes can be used effectively, see Sector Engagement Section.