Pension Funds Green Agendas Continue — You Prepared?
Are you on top of your institutional investors’ green agenda?
Today’s post focuses on a “state of SRI” article sent over by Green Journey reader and blogger, Ari Frankel.
It hints rather loudly to American real estate investors and developers that they need to step up their green investment and development programs — or else find themselves less competitive with funding from the ‘Big Money’ institutional investors.
Seems that an increasing number of pension funds worldwide are pushing for a more explicit environmental agenda within their investment holdings, according to the New York Times earlier this week. Nothing new there, for the deep green crowd, but great to know, in any event. And the Times gets kudos for being GPC — geopolitically correct — by citing the leadership of several European and one American pension fund in green investing (such factoids hammer at the “reinvent the green wheel” bias we have here in the US). It points to the United Nation’s Principle’s of Responsible Investment (to which we are a happy signatory) as now representing 381 members and $14 trillion in assets.
The Times also asks the necessary question of whether Big Money is really creating positive environmental and social change. For example, they point out that no one really knows if the pension funds’ efforts are really creating the impact they profess to seek. Or if all of the funds with a green agenda as committed as they claim (gasp!) .
HOWEVER, it was pretty surprising that the usually sharp, pro-SRI NY Times failed to dedicate one pixel of ink to the corporate watchdogs like CERES or BSR — THE acknowledged leaders in pushing corporations and institutional investors to adopt ESG (environmental, social, governance) principles within their business and investing activities. CERES has an extensive list of tools and publications documenting their efforts to educate the investment community on the value a green agenda brings. And you can take a lookat our previous coverage of CERES’ video on their engagement work as well.
Nonetheless, good takeaways and a not-so-subtle warning are there between the lines for commercial real estate. The point? Simply, most of these Big Money investors have some amount of their funds allocated to real estate. If they haven’t tailored their real estate investment criteria towards green real estate, yet, then they are bound to do it soon.
Sooner or later, you are going to call on your pension fund investors for your normal performance meetings and, in addition to the regular good dialogue, you are going to be handed more requests – possibly in the form of more compliance reporting, audit checklists, risk assessments, engagement meetings, what have you.
Will you be ready?
What if Facebook Hired Green Finance Professionals?
When you are pondering your green investment strategy, is there a silent voice asking, “how am I going to get all of these employees to actually buy-in to this? How am I going to prevent failure of the plan?”
A human capital bugaboo is quietly freeloading on nearly every one of our engagements with investors. Some clients have already figured out that the organizational learning and people challenges attached to green real estate investing might be more daunting than the physical assets themselves.
Change is a distinct skill that many businesses focus intense energies on avoiding. So they aren’t any good at it. Just google “US auto industry”. Human capital problems are nothing new, but lately we’ve been asking ourselves,
“How has sustainability changed the job of real estate finance and investment professionals? Are investors thinking correctly about the required skill sets?”
The problem’s complexity is amplified by the dimensions of networks needed to be a successful green investor. If you are a fund with operating partners and developers in many different regions, your success rests upon their ability to adopt green building practices and align their colleagues around your business direction, too. Yes, their problems become your (additional) problems. We know some investors who complain about green “cost premiums” as a thin cover for murkier issues — large, amorphous “shadow human capital / supply chain” challenges.
But, subscribers know this blog’s favorite question: “What CAN you do” to address these problems?
Look at Facebook. The social networking universe completely reinvents itself nearly every six months. They have the fortunate challenge of massive growth complicated by turbulent organizational change – and they make it all up as they go along. The volatility of their business makes green real estate sound, well… tame. Like green real estate, there’s a big vision within social networking, but no one has all the answers. So how do they address and scale up their model around people?
We’re including some snippets from an interview with a Facebook hiring manager. His insights might apply to hiring/training green finance and investment professionals, too. You decide. To speed things up for those who need to go microwave a second helping or move on to another football game, we start with our takeaways first. [Note: the underlining is our own enthusiastic emphasis.]
The Green Journey Takeways
- Real estate investors might need to re-think their assumptions on the skill sets of successful sustainable real estate professionals within their organizations. Look at Facebook’s “atheletes-people” as an example.
- Do you need more ‘clever’ people on your green team or ’smart’ ones, per Facebook’s definition?
- Are you clear on what your firm is trying to accomplish with sustainability in order to get people who ‘fit’ the best in their roles? Facebook has set Apple as its customer service standard. Look at how they challenge interviewees with related questions that make them choke.
- Are you focused on organizational excellence in green finance and investing or just copying what you see some other firms doing at the moment?
The Snippets
“You are on a crash hiring spree. How do you avoid making mistakes when you have to move so quickly?
Everyone makes mistakes. No matter how hard you try, there will be some percentage of hiring mistakes you make. Where the management test hits metal is not just in hiring employees, but in retaining and motivating them, and in fostering some collaboration and innovation inside the company.
What qualities do you seek in candidates for those jobs?
We need to find people who can “turn the big ship on a dime.” The ship keeps getting bigger because there are more lines of code, more people using the product, more features in the product, etc.
When it comes to a type of person, I am a big believer in hiring team players, but really hiring athletes-people who can play multiple positions and who have varied skills. That means you end up hiring a mix of inexperienced but bright people. I look for people who are clever. There is an adage that says “a smart person solves the problem, but a clever person prevents it from being a problem in the first place.”
Are there certain candidates who just aren’t a good fit with Facebook?
The lowest “hit rate” through interviewing are people who come out of large IT organizations because their mindset tends to be very reactive and process driven rather than figuring how to deliver excellence.
For example, we are interviewing for a help desk manager-someone who is going to run our global help desk that services all of our employees. We have interviewed a number of people who have fantastic résumés and come out of extremely high-pedigree companies.
When they interview, they say the help desk can only be run so well, that it is impossible to run a help desk 24/7 at a low cost or that it is impossible to have users satisfied with the help desk and meet these other cost objectives or time objectives.
When you try to test their assumptions by asking them how they would scale a help desk to support 1,000 or 2,000 people while providing better service than the Apple Store that’s across the street from our office (which is our standard for excellent customer service), people choke on that question.
They cannot wrap their head around why you would want to do that or how to approach solving that problem. The people we hire have to be reasonably comfortable with the unknown and be willing to put some amount of structure around it.
Happy Thanksgiving from Our Green Journey!
Part 3: JP Morgan Chase Talks Green Real Estate Investing
When JP Morgan Chase says that sustainability is creating fundamental changes to how they invest in real estate, you pay attention. Part 3 of our special series on the Green Building Finance and Investment Forum - New York, co-sponsored by Galley Eco Capital, continues with the perspectives of keynote speaker, Doug Lawrence, Managing Director at JP Morgan Chase Asset Management.
“Achieving sustainability can be an uphill battle-but it’s crucial that you get there. Your future customers will demand it, and your ROI will depend on it.” - Doug Lawrence, JP Morgan Chase
Doug set the stage by reminding everyone about the basic objectives of investment banking: 1) preserve and grow clients’ capital and 2) make money for themselves in the process. In JP Morgan Chase’s case, sustainability has become a profitable strategy for them that also preserves and grows client capital, which in turn ensures their competitiveness in the ever-changing financial marketplace.
Case in point: Doug manages the Urban Renaissance Fund, JP Morgan Chase’s newest vehicle, which focuses on cities and their first suburbs — where population density is high and the payback on energy efficiency is substantial. The Fund sees investing in sustainable real estate as a way to improve returns and reduce investment risk. However, “getting there” with green real estate is not without it’s challenges.
Green real estate is a different animal than conventional real estate. Successfully investing green means re-calibrating underwriting metrics and changing many of the fund’s business procedures. It costs money to do this and it can take quite a bit of time to change hearts and minds about what constitutes a great sustainable real estate investment. On top of that, you have to manage organizational inertia, which can often be the worst enemy of change.
“Green means changing our procedures, our underwriting, our vendors, the way we put our products together.” -Douglas Lawrence, JP Morgan Chase
So how did Doug and his team help the powers that be at JP Morgan Chase embrace green real estate? Well, first of all - it took them two years, plus some organizational change, but the repeated message to leadership was clear: if we don’t do this, we will lose our edge, and our financial products for real estate will be obsolete.
Doug drove home his point about obsolescence in real estate with the example of the emergence of building air conditioning back in 1950/1960s. The technology was rapidly implemented, and buildings that did not incorporate air conditioning became obsolete. They faced appraisal risk, and their valuations decreased quickly. For owners, their failure to upgrade their properties increased their investment risk and devalued their real estate holdings.
Wanted: Experienced and Knowledgeable Green Developers and Investors
So now that your fund is focused on sustainable real estate, what’s next? Well, your next challenge is identifying experienced and qualified developers/operators who can reliably build your project in a way that gets you the great green benefits you (and your investors) seek.
In today’s market, a successful track record is key to investor confidence; and Doug made it clear that, while they are supporters of green real estate, they are not interested in any developer learning about it on their dime. However, since green real estate is still in its infancy, they realize that they have to be flexible in how they evaluate their partners, otherwise they will have a difficult time generating a sufficient level of investments.
“If you have a great idea, tell us how you are going to mitigate risk.”
So what do you do if you’ve got a great development track record, but are new to sustainability and want to attract green equity capital? From Doug’s perspective, if you want their money, you need to reduce the execution risk within the investment. And creating strategic alliances between the experienced developer and firms with proven sustainability expertise is a smart way to mitigate those types of concerns.
And with that great team in place, what aspects about green real estate are driving JP Morgan Chase’s involvement in the sector?
- Green retrofits to existing buildings can be done profitably: JP Morgan Chase estimates that existing buildings which have been retrofitted green enjoy a 3% higher occupancy, a 7.5% higher valuation and use 25%-30% less energy than their non-retrofitted counterparts.
- There is no cost question about building green real estate: Despite the fact that many in the industry still talk (incorrectly) about hefty cost premiums to build green, JP Morgan Chase sees that an experienced developer of green property can deliver LEED-certified and LEED-Silver product to market at absolutely no cost premium whatsoever.
- Integrated design is the key: Engineer value at the beginning instead of value engineering at the end of a project. Also, integrated design optimizes both first and life-cycle costs.
Selling Your Deal: Know The 7 Fears of Real Estate Equity Funds
Doug finished the presentation by educating the audience on how to best position themselves and their transactions for investment by other funds like his. He presented seven key issues (or fears) that many funds have when it comes to sustainable real estate. By understanding and addressing these concerns, investors and developers can remove many of the roadblocks to getting funding for their projects. The seven fears are:
1. Fear of being too early. Equity funds fear the failure of your concept, because there is no protection for their capital. You need to have a lot of data to support what you are doing, and develop an executable business plan that can be understood by potential investors.
2. The fear of learning new stuff. As previously mentioned, bankers are conservative. They know certain things, and they know them well. They have their favorite product types, their favorite developers, and they have their risk management down to a science. Your project may represent a major departure from their investment machine, and they might resist. It is up to you to educate them, and to be persistent.
3. Loss of power. This fear is a derivative of fear #2. Changing the game forces individuals at the top of the corporate structure to either adapt, or risk becoming obsolete. When it comes to understanding sustainability, it’s your responsibility to educate your potential partners in a way that maintains their leadership as the smartest people in the room.
4. Maintaining deal flow. Equity funds don’t want to upset their developer partners; as that might put their investment pipeline at risk. Therefore, they will tread lightly when it comes to convincing their existing partners to become more sustainable. The antidote: re-read all of the above.
5. Fear of losing return. As a green developer/investor, you can use your potential equity investor’s fear of losing returns to your advantage; help them understand how their returns will be diminished if they don’t invest in green.
6. Fear of execution. Unfortunately, there is a flip-side to fear #5. If equity investors think that your sustainable real estate investments raise the execution risk for their capital, they will be less inclined to invest. Structure your deal and your strategic partnerships to mitigate as much risk as you can. (Our note: You should be doing this for every deal anyway)
7. Fear of being too late. Whether by law or by simple economics, green real estate will become the norm. When that occurs, the incentives for green building and the learning opportunities will be gone. If equity funds don’t understand how to evaluate and fund green investment before the market transformation, they will lose their competitiveness. Make sure that you emphasize this to your potential equity partners.
Doug’s perspective was well received by the audience at the conference, and we think that green developers and investors would be wise to heed his recommendations.
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Green Building Finance and Investment Forum New York
Get the Download on Green Real Estate Capital
The Green Building Finance & Investment Forum is where industry pacesetters advance sustainability via their innovations and best practice in energy efficiency, green real estate development, investment, finance and operations. Twice a year, approximately 150 leading green real estate investors, financiers and practitioners come together for an intense 2-1/2 days of workshops, presentations, frank discussions and, of course, dealmaking.
The participants, all senior professionals from high-caliber firms, set the bar high. And the presenters, their equally demanding peers, never fail to deliver hard content and inspire. The result is a productive, memorable experience that we humbly call “the TED of green real estateâ€.
Galley Eco Capital, in collaboration with InfoCast, is a founding co-organizer of this highly unique event. On the heels of a very successful New York meeting in September ‘08, we decided, together with our friends at Building Energy Performance News, to publish the summary perspectives of the industry pacesetters that are making sustainability a successful, viable investment strategy for the real estate community.
The summaries of the forum topics and individual perspectives will be published here in a series of ten posts on a weekly basis. Here is an advance peek at the lineup (note: if a post is linked, then it has already been published – click on the link to go directly to the post).
- Lessons for Future-Proofing Property Values
- Unlock Hidden Cash Flow and Value with Energy Efficiency Retrofits
- JP Morgan Chase Talks Green Real Estate Investing
- Portfolio Owners Top Advice for Greening Existing Buildings
- Green Building Drives Triple Bottom Line Advantages
- Starting a Green Real Estate Fund?
- Valuation & Risk in High Performance / LEED Commercial Real Estate
- Green Leases: An Important Component of a Green Real Estate Investment Strategy
- Perspectives on Assessing & Financing Portfolios for Energy Retrofits
- Green Finance: Current Trends, Future Outlook
- Carbon Risk Management: What It Means for Real Estate Portfolios
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Subscribers to Our Green Journey will be receiving this series automatically. Please subscribe to Our Green Journey either via email or RSS in order to make sure that you do not miss any of these summaries. Clients and friends who are already within Galley Eco Capital’s newsletter community will see special summaries of these posts in future newsletter editions as well. Contact us if you wish to receive our newsletter.
Our special thanks to Building Energy Performance News for helping us to spread the word about this special event and its participants, as well as to InfoCast, which has been an innovative partner in creating and advancing this particular meeting for the green real estate community.
And if you were a participant at these meetings, and wish to share your feedback, by all means contact us.
What’s different about underwriting sustainable real estate?
Sustainable buildings are just a little different...
Do you see the unique value that green brings to your real estate investments reflected within their appraisals? No? Well, join the big crowd and read on: this is a special post for you.
Not everybody in commercial real estate is immersed in gloom and doom. Some folks, like the Appraisal Institute, are using the downtime coming from fewer transactions to get themselves fit for the sustainable real estate future. In case you missed the announcements, the AI is in the midst of a series of classes for their members, to introduce them to sustainability principles and the basic considerations for appraising green buildings.
I’ve had the chance to talk with the seminar’s co-developer, Theddi Wright Chappell, Cushman Wakefield’s new National Practice Leader for Green Buildings & Sustainable Real Estate. The overall course is framed around the question “how is a sustainable building different?” than conventionally built property.
With good questions focused around understanding the differences, appraisers will be more likely to surface up more relevant facts that help them to better distinguish the risk profile of the green vs the non-green building.
As for the potential differences, any of these may be present within the green transaction:
- lower exposure to energy and consumables costs increases
- potential for greater construction and delivery risks, depending on factors such as availability of trained professionals
- different pattern of lease-up and absorption risks
- different pattern of tenant retention and turn-over risks
- different pattern of periodic capital improvements
- lower exposure to obsolescence.
The Green Journey Take
This is just a tidbit of the considerable body of knowledge that Theddi and her AI colleagues have packed into this very timely course for those just getting into the green real estate game.
Within our own practice, we typically receive detailed investment cases from clients for green buildings, which completely overlook any type of enhancement that sustainability brings to the assets. Nearly 100% of the time, some portion of our investment client work involves working with the the investor to “connect the dots” between the green building’s design and construction budget and the operating pro forma assumptions during the holding period. The clients rightfully want to know how appraisers might handle these same issues, under the logical (but incorrect) assumption of if the appraiser won’t count it, why should we do change our underwriting? So, from our point of view, it is good to see that the AI is helping to address this question with their new course.
What can you do? Talk with your appraisal colleagues about how they might evaluate sustainable real estate and urge them to take this new course, if they have lots of questions.
