The Real Estate Sector's Role in Achieving a Sustainable Future

In the pursuit of a sustainable future, the real estate sector has a critical role to play. According to the International Energy Agency, “Operational energy use in buildings represents about 30% of global final energy consumption,” making it imperative for the industry to embark on a path of decarbonization. As countries rapidly urbanize, new cities are emerging as hubs of economic activity, leading to a substantial increase in built environment areas. According to BloombergNEF, “Cooling demand for residential buildings is set to increase by 115% by 2050 under BNEF’s Net Zero Scenario, and heating demand is set to be twice that.”

Because of that need, the Science-Based Targets initiative (SBTi) has developed its Building Sector Guidance (BSG) with significant implications for all players in the sector.

However, for many Asian countries especially, decarbonization already poses significant challenges — natural, technical, and regulatory constraints. The additional expectation to adopt the even more comprehensive framework dictated by the SBTi’s Building Sector Guidance may give rise to potential stranded markets, and pile even more difficulty on top of what is already a monumental challenge.

Even so, by better understanding the BSG and its applications, companies and organizations can begin taking the necessary steps to integrate these best practices into their overall decarbonization efforts.

Main Takeaways of SBTi’s BSG

The BSG focuses on several key aspects of overall decarbonization, intended to support and align with other corporate governance and sustainability efforts. Some specifics to highlight:

• Increased ambition for emissions reduction targets: Companies in the real estate sector are mandated to use sector-specific pathways for buildings, with exceptions only for building materials manufacturers and suppliers, architecture, engineering, and construction firms, and tenants. These pathways increase target ambition through the development of 1.5°C pathways in collaboration with the Carbon Risk Real Estate Monitor (CRREM), requiring both country/market-specific considerations as part of portfolio target setting. The BSG mandates that in-use operational emissions (emissions associated with the operation of a building in its use stage) from Scope 3 sources, in addition to Scope 1 and Scope 2 emissions, must align with 1.5°C targets. It also requires the inclusion of fugitive emissions as part of in-use operational emissions. Additionally, the BSG sets 1.5°C pathway-aligned targets for upfront embodied emissions (greenhouse gas emissions, measured in carbon dioxide equivalent, associated with materials and construction processes of a building prior to the use phase of the building), with specific criteria for inclusion.

• Adopting a Whole Building Approach: The BSG uses a ‘whole building approach’ concept to identify emission boundaries for target setting. This approach means that a building’s complete in-use operational energy consumption, including both landlord and tenant-controlled spaces, is included within a user’s target boundary, regardless of their chosen GHG boundary consolidation approach and consequent allocation of emissions across their inventory.

• Phase Out of Fossil Fuels: The BSG mandates that companies must publicly commit to installing no new fossil fuel equipment that i owned or financially controlled by the company from 2030 at the latest.

While these are some of the main points addressed, there is additional guidance to consider — depending on various sector- and company-specific factors — so it’s important to find the right partnerships that will help an organization fully understand and integrate the relevant guidelines.

Implications of the BSG for In-Use Operational Emissions

In the pursuit of ambitious decarbonization goals, asset owners face substantial implementation costs, particularly in regions with less mature markets and lenient building codes. While mature markets benefit from supportive regulations and green financing options, challenges such as data transparency and long-term leases hinder effective decarbonization measures. Moreover, specific Asia-Pacific (APAC) markets encounter additional risks and costs due to limited access to renewable energy solutions.

Impact on Project Finance/Total Cost of Ownership

Elevated target ambitions necessitate asset owners to implement decarbonization measures, potentially incurring substantial implementation costs, such as the green premiums associated with acquiring renewable energy (RE) solutions. Increased ambition also amplifies mid-term costs related to asset renewal/retrofits as owners strive to enhance properties’ energy efficiency metrics. For recently or newly built assets, this may translate to unscheduled or earlier retrofits which impact the asset’s financial performance. The costs associated with implementing decarbonization measures will need to be incorporated into project finance modelling for future/planned assets.

In mature markets, building codes often include energy efficiency measures, lowering challenges for implementing decarbonization levers. Some countries also offer green financing options, such as France’s zero-rate eco-loan for home retrofits. Conversely, in less mature markets, particularly in the APAC region, building codes may lag in terms of energy efficiency requirements, limiting the willingness or feasibility of owners to implement decarbonization measures.

Tenant Engagement

The intent of the Whole Building Approach (WBA) is to increase shared accountability in the buildings sector and encourage all stakeholders, including owners and tenants, to collaborate on decarbonizing building emissions. Hence, in addition to the landlord, tenants that voluntarily abide by the BSG would address their in-use operational emissions through Scope 3 Category 8 Upstream Leased Assets.

However, the absence of data availability and transparency for tenant-related emissions has been a challenge for asset owners, limiting their ability to implement effective decarbonization measures. Long-term leases with tenants, especially in single lease and triple net lease arrangements, can legally prevent landlords from modifying contractual terms to introduce decarbonization or green lease requirements, such as mandatory RE procurement for tenant energy usage.

In the absence of regulatory or contractual obligations compelling tenants to adopt decarbonization measures, tenants may have limited incentives to absorb additional costs associated with such measures, impacting landlords’ ability to meet their SBTi BSG targets. To address this, deeper and more transparent landlord-tenant engagement is required to provide clarity over properties’ true emission profiles, making it easier for owners to engage with tenants on decarbonization measures like green leases and RE procurement solutions.

Stranded Markets

The BSG requires companies to meet portfolio-level targets aggregated from market-specific reduction requirements. Companies with high concentration of assets in APAC may therefore face the risk of stranded markets due to limited access to renewable market mechanisms like PPAs. These hurdles stem from the low maturity levels of the RE ecosystem, influenced by regulatory constraints, market conditions, and geographical limitations.

Limited access to RE solutions and high green premiums further constrains the commercial feasibility of adopting RE solutions, particularly in regions where tenants are highly price sensitive.

A Proactive Approach for Real Estate Companies

To navigate the challenges and leverage the opportunities presented, real estate companies can:

• Evaluate and determine green premiums and the cost of energy efficiency measures, incorporating these considerations into project business cases and financial assessments. This could include levers like internal carbon pricing to account for decarbonization-related costs as part of their project finance modelling.

• Implement and strengthen internal policies to improve tenant engagement through measures such as supporting tenant transitions to RE procurement, offering preferential incentives for transition, coordinating and consolidating data collection, and developing green leasing policies.

• Drive demand for RE instruments like power purchase agreements (PPAs), renewable energy certificates (RECs) or onsite solar, signaling to governments and stakeholders, especially in APAC, the need for better policies and systems for RE development. This action can help reduce the risk of stranded markets.

Real estate companies need to start today — using target setting as a tool to determine exposure and constraints, and developing feasible, aligned decarbonization roadmaps.

By embracing the SBTi Building Sector Guidance, the real estate sector can play a pivotal role in steering the world toward a sustainable and low-carbon future. Through collaborative efforts, stringent target-setting, and industry innovation, the industry can significantly reduce its carbon footprint and contribute to global climate goals.