27 July 2022
Sustainable Real Estate: Energy Efficiency
Improving the energy efficiency of existing buildings is a critical part of any pathway to a net-zero built environment. Support from the insurance market will be needed to achieve the necessary changes at the pace required.
A scale of the challenge is daunting
Existing buildings account for a significant proportion of global energy consumption and, consequently, a large chunk of global greenhouse gas (GHG) emissions. In the UK, for example, heating/cooling and powering buildings is responsible for 40% of energy use and 22% of GHG emissions. This is the bad news. The good news is that building stocks represent a sizeable opportunity to reduce global energy use (and thus GHG emissions) – and do so with existing, commercially-available solutions. This is because existing buildings frequently underperform what is achievable with current best available technology.
Governments are waking up to both the scale of this challenge and the potential for improvement. In the UK, an important lever for change has been the setting of minimum energy performance standards for rented properties. These properties may only be let if they achieve an energy performance certificate (EPC) rating of E or higher. Over the next few years, however, this is set to tighten significantly.
From the start of 2025, all new privately-rented domestic properties will have to have an EPC rating of C or higher. Existing tenancies have been given until 2028 to comply. Government also looks set to tighten the standard for commercially-let properties, proposing to introduce a minimum EPC rating requirement of C by 2027, and B by 2030.
Given that a significant proportion of the UK’s current building stock fall below these standards, considerable investment in renovation will be needed over the next few years to meet the new standards. And while there are a myriad of ways in which to improve an EPC rating, there is not much time left to make the necessary changes. This is particularly true when you are dealing with portfolios comprising multiple properties and tenants (who may not be too happy with the disruption caused by the necessary refurb work).
Insurers: part of the problem, or part of the solution?
Any improvements will also raise insurance concerns. While adopting LED lighting is a relatively easy, effective, and risk-free way to improve energy efficiency, other options ask more questions in the minds of underwriters. And it’s not unfair to say that insurers remain skeptical about some of the proposed solutions. It is therefore important to engage a specialist broker early in the planning phase to ensure continued adequacy of coverage through and after the installation of any energy efficiency improvements.
On the flip side, insurers are also now beginning to recognize their role in supporting the transition to a net-zero built environment. Risk management funds offered by insurers to clients as part of renewal deals have been traditionally directed to things like the installation of CCTV or water-leak sensors. But we are now having conversations with insurers about extending the definition of risk management to include sustainability concerns, such as the need to improve energy efficiency.
Insurers are also coming up with innovative, sustainability-related products. For example, HSB now offers coverage that protects against underperformance of energy efficiency measures, as compared to their pre-installation targets. It also covers physical damage to or breakdown of equipment, and any loss of revenue associated with lower-than-expected payments made under energy service contracts or incentive schemes. HSB are thus helping mitigate technical concerns about an insured scheme’s ability to meet performance thresholds and, in doing so, improving that scheme’s ability to access capital.
Another insurer taking steps to support sustainability in real estate is Beazley, which received approval from Lloyds late last year to establish a syndicate that will offer additional capacity to businesses that perform well against a set of ESG metrics. Property businesses are among those that will be accepted in the initial phase of the syndicate.
We will not achieve net zero without working together
Although the insurance industry tends to be seen as something of a lumbering beast – slow to change and innovation averse – the pressure is growing on insurers both to improve their own ESG performance and to support the transition in those sectors to which they offer coverage. We therefore see HSB and Beasley as just the tip of the iceberg of what insurers could, should (and ultimately will) be doing to encourage the sustainability transition within the real estate market.
Here at Gallagher, we also are passionate about being a force for positive change when it comes to achieving a net-zero built environment. As part of that, we are committed to working with the insurance industry to support our clients manage and mitigate the increasing risks posed by sustainability-related issues.
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