The Economics of Green Building


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The Economics of Green Building

  1. 1. The Economics of Green Building Transatlantic Evidence Nils Kok UC Berkeley Maastricht UniversityConnecticut Green Building Council October 2010
  2. 2. Energy and buildingsProperty sector consumes and pollutes  Carbon emissions and buildings are closely related   30% of global CO2 emissions   70% of U.S. electricity consumption  Impact of energy costs directly affects tenants and investors   Energy costs are single largest expense in provision of office space   30% of operating expenses   Energy represents 10% of total occupancy cost   Salience can only increase with rising energy prices  Awareness is growing…   Legislation   US: Waxman-Markey bill   Europe: EPBD, CRC   Corporate real estate as part of CSR policy (e.g., Chevron, BoA, …)   “Sustainable” property funds (e.g., Hines/CalPERS)
  3. 3. Usage of “green building” in the popular press…
  4. 4. …and visitors at the “Greenbuild” conference
  5. 5. “Green” building in the marketplace?Top-10 “green” commercial office markets
  6. 6. Economic significance of “green” buildingImplications upon the market for commercial space  Trends in “green” building may have economic implications  A higher initial outlay…   Not clear how much higher (0 – 20%)   ‘Smarter’ building managers/software … may be compensated by “green” value drivers   Cost savings   Energy savings (up to 35%)   Emission reduction   Increased rents   Reputation effects   Improved indoor air quality   Increased economic lives, reduced depreciation  Case studies on the economic implications   Focus often on new buildings   Results are hard to generalize
  7. 7. Economic value of “green” label?Academic research on Energy Star and LEED certificationSample of 28,000 office buildings (2009 cross section), 3,000 of which are certified by EPA or USGBC 1.  Evidence on economic premium for green office buildings   Rigorous control for quality differences (PSM)   Label vintage 2.  Identify the sources of rent and value increments   Explicit link to   EPAs measures of energy efficiency   USGBC measures of “sustainability”Sample of 8,000 office buildings (2007 – 2009 panel), 694 of which are certified by EPAs Energy Star or the U.S. Green Building Council 3.  Short-run price dynamics of green office buildings   Returns during turbulent 2007 – 2009 period
  8. 8. “Green” buildingsTwo programs: Energy Star (EPA) and LEED (USGBC)  Dataset of existing sustainable office properties (U.S.)   EPAs Energy Star for Commercial Buildings (1995)   Efficiency in source energy use is in top quarter relative to CBECS   Standardized for building use (occupancy, hours) and climate   Certified by professional engineer   Based on real energy consumption (at least one year of bills)   USGBCs Leadership in Energy and Environmental Design (1999)   Scoring systems based on 6 components of “sustainability”   Energy efficiency is just one component   Various systems and versions (eg. NC, EB, O&M, ...)   Based on design stage (and now verified after construction)   Similar programs exist in Australia, Japan, the UK, …
  9. 9. Example: 101 California St, San FranciscoEnergy Star certified, LEED Gold
  10. 10. Defining conventional comparablesSystematic match on location  Based upon longitude and latitude, we use GIS to identify all conventional office buildings in a 0.25 mile radius
  11. 11. Example: 101 California St, San FranciscoEnergy Star certified, LEED Gold
  12. 12. Clusters of “green” and control buildingsMinimum of one control building per cluster Chicago, IL Houston, TX Columbus, OH
  13. 13. Evidence on the “green” premiumCross section of green buildings at the end of 2009  October 2009 sampling of green office buildings   Rental sample   1,943 green buildings   18,858 control buildings   Transaction sample   744 green buildings   5,249 control buildings  To further control for differences in quality, we estimate a propensity score for each building (Rosenbaum and Rubin, 1983)   The probability ρ that a building is certified, as a function of its hedonic characteristics
  14. 14. Green buildings and conventional comparablesPropensity score weighting substantially reduces differences
  15. 15. MethodologyHow to further correct for differences in location and quality?  Standard real estate valuation framework(1)   Rin is the rent, effective rent, or transaction price per sq.ft.   Xi is a vector of hedonic characteristics   Size, age, renovation, class, amenities, public transport, …   Percent change in employment in service sector (CBSA) to control for regional variation in demand for office space   Cluster cn dummies to control for location – 1,943 (744) separate dummies in the rental (transaction) sample   gi = dummy variable if building i has green label   Dummy variables for year of sale in transaction sample
  16. 16. Propensity-weighted regression resultsMarket implications of Energy Star and LEED
  17. 17. Conclusions and implications (I)Eco-investment real estate sector is not only “doing good”  Ceteris Paribus, green buildings 1.  Have Higher Rents by 2-6% 2.  Have Higher Effective Rents by 6-8% 3.  Have Higher Selling Prices by 11-13%  The average non-green building in the rental sample would be worth $5.6 M more if it were converted to green.  The average non-green building sold in 2004-2009 would have been worth $11.1 M more if it had been converted to green.  The implied cap rate (3%) suggests that property investors value the lower risk premium inherent in certified commercial office buildings  The missing piece…what are the costs of “greening” properties?
  18. 18. The greener the better?Unique premium for each “green” building  What is the relation between the variation in the “green” premium and the LEED-score or energy consumption?  The increment to rent or market value for green buildings varies:
  19. 19. Detailed information on LEED-rated buildingsStandardized indices of buildings’ sustainability  For 209 (103) LEED-rated buildings, we have information on:
  20. 20. The sources of economic premiums for “green”Relating the premium to LEED and Energy Star data  Relating increments in rent and market value to the characteristics of LEED and Energy Star-rated buildings:(2) Estimated by GLS (Hanushek 1974)
  21. 21. Regression results (I)The rental increment for LEED rated buildings  LEED-certified, score 40: effective rent of 2 percent higher than otherwise identical, registered building  LEED-certified, score 60: effective rent of 20 percent higher  Energy Star and LEED are complementary
  22. 22. Interpretation of regression resultsThe increment for LEED rated buildings
  23. 23. Information on Energy Star-rated buildingsEmissions of efficient buildings are substantial…  For 1,719 Energy Star-rated buildings, we have information on:  Average emission of a building in our sample: 4,326 tons of CO2   750 cars, 9,000 barrels of oil, …   Energy Star-rated buildings emit at least a quarter less carbon as compared to conventional office buildings
  24. 24. Regression results (I)The rental increment for Energy Star rated buildings  A $1 saving in energy costs is associated with an increase in effective rent of 95 cents
  25. 25. Regression results (II)The transaction increment for Energy Star rated buildingsEnergy efficiency is reflected in “green” price increment  A $1 saving in energy costs is associated with a 4.9 percent premium in market capitalization, which is equivalent to $13/sq.ft.  This implies a cap rate of about 8 percent
  26. 26. Conclusions and implications (II)LEED and Energy Star labels seem to be complimentary  The green increment is systematically related to the underlying characteristics of energy efficiency or “sustainability”   Market seems to be relatively efficient in pricing these aspects  Direct capitalization of energy efficiency important information for investments in building retrofits  LEED and Energy Star measure somewhat different aspects of “sustainability” and complement each other   Low correlation between LEED-score and EUI-score
  27. 27. 2007 – 2009 office market dynamicsOffice rents, vacancy rate, and unemployment Office rents –30% Vacancy rate +40% Unemployment +115%
  28. 28. 2007 – 2009 office market dynamicsOffice rents, vacancy rate, and unemployment Unemployment x2 Office rents –30% Vacancy rate +30%
  29. 29. Short-run price dynamics of green buildings Substantial increase in rated space in a contracting economy   8,182 observations as of September 2007   694 rated buildings and 7,488 nearby control buildings   Rents, occupancy rates, effective rents   Same sample matched to financial information in October 2009   Drop buildings that were converted to “green” during the sample period   We estimate developments in rents, occupancy rate, effective rents: N (3) log Rint = α0 + αt + βi Χ it + ∑γ n cn + δ t git + ε int n=1   Rint is the rent or effective rent per sq.ft.   Xit is a vector of hedonic characteristics€   Size, age, renovation, class, amenities, public transport, …   Cluster cn dummies to control for location – 694 separate dummies   git is a green dummy
  30. 30. Results: rental levels and green ratingsThe “green” premium has slightly declined….
  31. 31. Regression results: logarithmic changes in rentReturns to “green” comparable to (high quality) buildings
  32. 32. Conclusions and implications (III)“Green” is getting mainstream  Increased awareness of energy efficiency and the role of the real estate sector have increased attention upon “green” building  Energy efficient and sustainable office space is now a large share of the commercial property sector -- getting mainstream  This may have economic implications for investors, tenants, and policymakers  Buildings certified by Energy Star or LEED command higher rents and prices in the marketplace   The “green premium” has slightly decreased during a period of volatility in property markets… …but the relative rents of green buildings have remained unchanged compared to identical conventional buildings
  33. 33. Conclusions and implicationsLEED and Energy Star labels seem to be complimentary  Market seems to be relatively efficient in pricing aspects of “sustainability”  Implications for investors:   These developments will affect the existing stock of non-certified office buildings   Environmental characteristics are a risk factor that should be priced in  Policy implications:   Modest programs by government and non-profit institutes to provide information are effective and incorporated by market participants   Directly affects energy consumption (and emissions)   More aggressive policies?
  34. 34. What happens in Europe… (?)
  35. 35. EU Energy Performance of Buildings DirectiveOriginated January 2003, revised December 2009 “Member states shall ensure that, when buildings are constructed, sold or rented out, an energy performance certificate is made available by the owner to the prospective buyer or tenant”
  36. 36. Program evaluation of energy labels…
Energy certificates, efficiency, and market pricing1.  The adoption process:   Adoption rate dynamics   Adoption determinants2.  The influence of energy certificates on the transaction prices of dwellings   Attempt to disentangle labeling effects in:   Quality of home   Energy features3.  The real energy use (gas and electricity) for all individual dwellings   What determines energy consumption?   How strong is the link between EPC and usage?   Is energy use capitalized? (for labeled versus non-labeled dwellings)
  37. 37. The laboratoryThe Netherlands introduced energy certificates in Jan 2008 Stylized facts: Population: 16.5 mln. Homes: 7.2 mln. Ownership: 55% Temperature: 50 F (34 F–64 F) Average home price: $322,000 Net mortgage: $1,120/month Gas bill: $133/month Electricity bill: $74/month
  38. 38. Adoption rateDiffusion slows down, but higher in “weak” regions
  39. 39. Adoption rateDiffusion slows down, but higher in “weak” regions
  40. 40. Energy labels and home pricesEnergy efficiency is clearly reflected…
  41. 41. Energy labels are incorporated in pricesPartial reflection of NPV energy savings  Labels will become mandatory (per EU regulation)  Private homebuyers take labels into account  What about tenants?   Labels will become part of rental policies  Labels are “popular” in the commercial property market   Green procurement GSAs (minimum label C, or two label steps)   Pressure of corporate tenants
  42. 42. Questions/remarks?