(Bloomberg) — There’s a deal-closing niche that’s quietly opening up in the battered commercial real estate market.
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This includes purchasing buildings with large carbon footprints and investing in green retrofits. Asset managers interviewed by Bloomberg said they doubled their clients’ money in just a few years by renovating old buildings, adding 20% to the rent and converting the proceeds into cash.
As a model for real estate investing, it’s simply “attractive,” said Paul White, who runs specialty funds for Hines, a Houston-based development company with more than $90 billion in assets.
Many investors interviewed by Bloomberg said they plan to rely heavily on bond markets to expand their financial influence and raise the stakes of such bets. Analysts monitoring the market also warn that increased capital spending and a shortage of skilled workers could fuel wage increases and significantly push up renovation costs.
But speculation about green renovations offers a glimmer of optimism in a market that until recently was battered by post-pandemic interest rates and volatile occupancy. MSCI said European commercial real estate prices fell by about 14% from March 2020 to June 2024, according to its index.
Now, with a new wave of environmental regulation and tenant prioritization, a growing number of CRE fund managers are looking to monetize this moment.
Europe’s revised Building Energy Performance Directive will come into force this year, requiring landlords to reduce their greenhouse gas emissions by at least 60% from 2015 levels by the end of this year. Owners of older buildings are at risk of significant write-downs, with lawyers advising the industry warning of “huge” future renovation costs.
Landlords who wait too long could face even bigger bills in the future, said Sven Binert, project leader at the Carbon Risk Real Estate Monitor, which helps the real estate sector tackle emissions reductions. . He also said many banks still don’t know how quickly the value of collateral on CRE loans will decline. Binart said this was a “significant risk” to banks’ balance sheets.
There is evidence that some landlords prefer to remain silent rather than realize their losses at the point of sale. White says they are “reluctant to sell and lock in a loss,” which is why Hines hasn’t been able to buy as many properties as he would like. But ultimately landlords “have to accept the reality of the new regulations,” he said.
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For now, flipping brown buildings to make them green remains a niche business, largely limited to investment managers speculating on risk. Asset managers creating funds aimed at greening commercial real estate include billionaire Tom Steyer’s Galvanize Climate Solutions, Fidelity International, Schroders & Co., and Ardian SAS. Included.
Vast amounts of wealth are at stake, and the stakes are high. According to analysis by Jones Lang LaSalle, 80% of Europe’s office markets were built more than 10 years ago and are aging and in need of green retrofitting.
More than half of European CRE managers say at least 30% of their portfolios do not meet new green standards, according to a study published by Deepki, a company that provides sustainability data for property owners and investors. It turned out that the company was left with a considerable amount of stranded assets. . At the same time, there is evidence that more people are keen to invest in converting brown buildings into green real estate. Of the CRE managers surveyed, 87% “plan to purchase more buildings with poor energy performance for retrofitting purposes,” Deepke said in the study.
Schroders manages a £460 million ($600 million) investment trust focused on improving the sustainability of around 40 commercial properties in the UK. The asset management company recently transformed a warehouse in Manchester into an operationally net-zero carbon building, allowing it to charge up to 40% higher rents than older properties on the same site. Schroders Real Estate Investment Trust said it is currently considering rent premiums of up to 30% across its portfolio.
Italian asset manager Coima plans to raise 500 million euros ($540 million) for a fund to buy, renovate, rent and sell office and residential buildings in Rome and Milan. Fidelity International has two funds focused on office buildings and logistics buildings. The company’s investment committee initially balked at the high cost of purchasing and renovating the London office building, but gave the go-ahead after Fidelity negotiated a good price.
Institutional investors are paying attention. Mr White said Hines had brought together 35 pension funds and other investors into a €1.6 billion fund dedicated to converting brown properties into green assets. By the time Hines closes the fund in 2030, the firm expects that 1.6 billion euros to turn into at least 4 billion euros, he said.
“Usually we sell pretty quickly,” White said. “We can rebuild the building in three to four years.”
On the other hand, banks may not reflect the risk of brown real estate loans on their books.
Priscilla Le Prierec, head of real estate, structured loans and development finance at La Banque Postale, said her team refused loans on environmental grounds because the business was being taken over by a competitor. He said he had just seen it happen.
“I highly doubt that,” she said in an interview.
But ignoring climate risks is likely to be costly, especially as insurers pull back from properties that prove unprepared, she said. “You need to make sure your assets are insurable.”
BNP Paribas SA, the European Union’s largest bank by assets, sold the Madrid building for €59 million three years ago, at the time a 40% discount compared to comparable Grade A assets in the region. Ta. The property is currently the subject of a brown-to-green renovation project by French private equity firm Ardian.
Edmund Eggins, Ardian’s managing director of real estate, said the building was on track to be “stranded by 2030” as an asset.
A BNP Paribas spokesperson declined to comment.
Flipping the site, known locally as Faro, will require rebuilding the entire single-glazed façade and replacing all air conditioning and ventilation equipment. New plumbing reduces water usage, and solar panels generate clean electricity and heat. Ultimately, a cluster of 900 hidden sensors will constantly monitor and adjust the building’s performance to keep emissions low.
Eggins said the expected cost was 30 million euros, or about half the purchase price. Ardian, which has completed 70% of the work to date, expects to complete the project by the end of this year, after which it aims to command rents 10% to 20% higher than average for the building’s local area.
The goal is to make Faro “Spain’s first zero-carbon building,” Eggins said.
“Inefficient or non-compliant assets run the risk of becoming functionally obsolete and illiquid,” said Spencer Corkin, head of value-add strategy at European property management company AEW.
The flip side of that, according to White-at-Hines, is that investors are now able to ride a wave of sustained growth.
“It is inevitable that demand for sustainable real estate space will increase,” he says.
–With assistance from Neil Callanan.
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