ESG (Environmental, Social and Governance) is an umbrella term for investment strategies that seek positive returns and long-term impact on society through responsible investing. Companies focus on three main areas: environmental issues, social impact, and corporate governance.
In this article, we explore ESG and its importance in real estate investing.
Types of Environmental, Social, and Governance (ESG) criteria in real estate
Three types of ESG criteria can be applied to real estate:
- Environmental: Includes factors such as green building certification, LEED certification, and energy consumption. Essentially, the carbon footprint and environmental risk considerations of a property or business.
- Social: includes factors such as fair housing laws, whether or not there is a homeless shelter nearby, and whether or not there are good schools nearby. For this business, this may also take into account board diversity.
- Governance: Governance issues include factors such as how well the company follows local zoning laws, whether or not it has any outstanding lawsuits with local authorities, and so on. It also encompasses the impact of business practices such as conflict of interest.
The importance of ESG in real estate
The reality is that climate change is influencing real estate investment the world over. Citizens of the world appear to be shifting their demands toward sustainable housing solutions and sustainable construction practices, expecting corporations to operate with as little adverse environmental impact as possible. This has amounted to a rise in the implementation of ESG programs by real estate developers. While ESG is important in real estate, it holds a great number of benefits.
The benefits of ESG in real estate include:
- Carbon control
- Conservation of limited natural resources
- Social impact management
- Creation of sustainable infrastructure
Let’s explore each benefit in detail.
ESG helps real estate investors in carbon control
The real estate industry is blamed for its significant role in environmental pollution. UNEP 2020 estimates that the building sector contributes 38% of global carbon emissions. ESG helps real estate investors take part in carbon control by creating practical methods to reduce their carbon footprint. For example, constructing green buildings that use renewable energy like solar power reduces reliance on energy generated from fossil fuels, and thus scores higher in ESG rankings.
ESG helps real estate investors conserve limited natural resources
Environmental considerations in ESG programs help real estate investors lower consumption of limited natural resources. They can achieve this through efficient recycling, sustainable sourcing, and much more. For instance, real estate investors can incorporate a water treatment plant to recycle used water and harvest rainwater. This helps them to conserve water and create water sustainability.
Availability of clean water is one of the critical factors tenants consider before moving into a neighbourhood. Hence, creating water sustainability not only attracts tenants but also promotes their retention. This creates long-term demand, which promotes sustainable financial flows. Also, it elevates properties value, creating higher income potentials for sellers.
ESG helps real estate investors make a positive social impact
The built environment influences how people interact with others and our surroundings. If not designed with society in mind, real estate can block people from accessing basic needs like water and energy. This would be wrong and amounts to unethical investment rather than responsible investment. Such investments would attract opposition from local communities, leading to costly delays. But when institutional investors protect the community’s interest, the community protects them too. ESG helps real estate investors assess and manage risks like community opposition to projects. They can identify areas of interest to communities that would easily spark conflict and consider them in their designs.
Another way ESG benefits real estate investors is by helping them identify opportunities. Viable opportunities in a community can present themselves in form of challenges like lack of clean water. Real estate investors can exploit these challenges by providing sustainable solutions like starting community water projects. Responding to the challenges of the community helps create a rapport with them. The connection reduces opposition to new projects and reduces delays in their implementation. ESG programs should guide investors who want to create sustainable housing solutions.
ESG helps real estate investors support sustainable infrastructure
There is a very thin line between real estate and infrastructure. Infrastructure and real estate exist together since they complement each other. One does not work without the other. For instance, households need energy and need water for daily use. Infrastructure, in return, needs real estate to house critical installations and people. ESG helps align infrastructure with frameworks like the UN’s sustainable development goals (SDGs). The SDGs are aimed at promoting a better and sustainable future for all. UN member states intend to implement SDGs by 2030.
A notable attempt toward sustainable infrastructure is the smart city initiative. Cities like Singapore and Dubai are leading the way in implementing smart city technologies, by way of smart buildings and citywide technological solutions. Smart cities intend to use technology to solve urban challenges. Most global cities struggle with challenges like traffic, waste, and energy efficiency. Smart cities generate data that helps them manage infrastructure efficiently. They can optimise their energy use, transport systems, waste management, and water conservation.
Through the construction of green buildings, real estate investors can support energy conservation. Some of the green strategies being adopted in the real estate industry include:
- Use of materials that regulate internal humidity and heat
- Making buildings greener and sustainable by installing solar panels and shades
- Signing power-purchasing agreements to reduce carbon emissions
ESG initiatives call for continuous innovation and invention since they’re technology-driven. This can significantly elevate the cost of projects, but it’s a worthy course for creating long-term value.
How to start implementing ESG as a Commercial Real Estate (CRE) investor
As a commercial real estate investor, you are likely to want to implement ethical behaviours and considerations into your portfolio. There are a few ways that you can do this. One way is to hire an ethical consultant and pay them for their services. Another way is to implement ESG practices on your own, which includes the following:
- Consider supporting the local economy and community by buying locally-sourced products, such as furniture, construction materials and appliances
- Consider using sustainable construction methods like green building, LEED certification, and passive solar design
- Think about how you can lower your carbon footprint by reducing energy consumption or even going carbon-neutral
- Consider giving back to the community through volunteering or charitable donations
- Consider working with an ethical lending institution that supports fair lending practices
Step 1: Find companies that focus on sustainability
To invest in companies that focus on sustainability, you first must be able to find them. You can do this by looking through CDP’s Global 100 list or the Dow Jones Sustainability Index. Another good resource is the Financial Times 500 list, which focuses primarily on UK-based companies and includes some US-based companies.
Step 2: Research the company’s sustainability and climate change initiatives
You can research a company using the list of sustainability metrics provided by CDP, as well as other sources such as their website and investor relations page. The most important thing to focus on when researching is what measures they have in place for climate change. For example, to understand what it is that a company is doing to mitigate climate change, look at its carbon footprint and net greenhouse gas emissions. You can also research the company’s goals and financial performance in relation to sustainability.
Step 3: Determine what specific sustainability metrics you are interested in
If you determine that a company has some of the metrics you are interested in, determine which ones. If a company has more than one metric, prioritize them. From here, you have everything you need to calculate the sustainability score.
Step 4: Gather data on the company and their sustainability metrics
As you research companies, keep track of which ones you are interested in. You can do this by copying the information you find in your research into a spreadsheet. This can be done by taking a screenshot of each new source you find. Once you have collected data on all of the companies that interest you, use your research to calculate the Sustainability Score. Finally, compare your company’s sustainability score to other companies. For example, a company with a sustainability score of 80 would be in the top 20% of companies. If you want to compare with another company, use their Sustainability Score as well.
Step 5: Find out if the company is publicly traded on any stock exchange
Choose a company from your list and determine if they are publicly traded on any stock exchanges (i.e., New York Stock Exchange, NASDAQ, etc.) or if any types of stocks offer dividends. If the company is not publicly traded, try to contact the company and see if they have an investor relations department. You can also contact your local financial advisor and ask them if they would be willing to give you some advice or help you decide whether or not the stock of the company that you are considering investing in is worth it.
ESG Frequently Asked Questions
Is ESG the same as CSR?
CSR stands for Corporate Social Responsibility and ESG stands for Environmental, Social, and Governance. The two are often confused with each other because they both have the same acronym. However, they are not the same. While CSR is a business-level strategy that companies use to make their operations more sustainable, taking into account a number of social factors, ESG is a company’s environmental, social, and governance-related activities. ESG includes things like carbon footprint reduction and renewable energy use. It also includes how a company handles its employees’ personal data as well as how it manages its supply chain.
How do companies implement ESG?
Companies have adopted ESG practices in different ways, but there are common themes that they follow. For example, many companies will look at their impact on the environment by assessing the carbon footprint of their operations and products. They will also make sure that they are not contributing to any kind of human rights violation in production or distribution processes.
Some companies have implemented ESG policies through their supply chain. For example, the company that makes your favourite coffee might pay a fair price for the coffee beans they buy so they can ensure that farmers get a fair price for their product as well. Some companies have already started to see the benefits of this type of change. For example, when Apple Inc. implemented an environmentally friendly policy for its suppliers, it saw a 20% reduction in greenhouse gas emissions over three years. Others use ESG practices as a way to gain a competitive advantage by making their products more attractive to consumers who care about ethical practices and sustainability.
What is an ESG stock?
An ESG stock is a type of stock that companies with environmentally and socially friendly practices. Investors can use these stocks to help make their investment decisions more sustainable. ESG stocks are becoming more popular as the demand for sustainable investments increases. For example, the top five ESGs in 2021 were Apple, Tesla Inc., Microsoft Corp., Alphabet Inc., and Amazon.
The importance of ESG
The importance of ESG in real estate investments cannot be over-emphasised, mainly because the industry bears significant blame for environmental pollution worldwide. ESG strategies represent a complete departure from profit-centred real estate investments to socially-responsible investments. Through ESG programs, real estate investors can create sustainable long-term gains all while giving back to society.