Toby Horne & Ollie Finkill, both from Siemens Financial Services in the UK, address the impact of new energy efficiency legislation on existing commercial building stock and how specialist finance solutions can supercharge renovations.
There is increasing pressure to make commercial buildings more energy efficient to rapidly reduce energy consumption, carbon emissions and costs. To accelerate investment, the UK Government has introduced new legislation requiring buildings to meet minimum energy efficiency standards in order to be rented, threatening billions in commercial property value if standards are not urgently met.
According to the UK Government, improving buildings’ energy efficiency is “one of the most cost-effective ways in which businesses can reduce their energy use and lower the associated bills in the buildings they occupy.”
To ensure the timely conversion of its building stock and combat greenwashing, the UK has introduced increasingly stringent environmental, social and governance (ESG) regulations. Legislation introduced on April 1, 2023, now prohibits landlords from leasing commercial buildings with an EPC rating of ‘F’ or lower. The regulations not only prohibit non-domestic landlords from granting new tenancies if the building has an EPC rating below E, but now also applies to existing tenancies as well.
Given rented buildings make up 61% of the total non-domestic stock in England and Wales, and account for 37.5% of the total emissions from non-domestic buildings, this is an urgent issue.
According to the most recent Government estimates, around 11.4% of commercial buildings in Great Britain currently fail to meet the new standard. As a result of these growing sustainability requirements, implementing energy efficiency improvements in commercial buildings must be a top investment priority for facility managers and building owners.
Landlords of properties with a lower rating must improve the energy efficiency of those buildings or face penalties ranging from £5,000 to £150,000. Alongside financial penalties, buildings owners and investors are also vulnerable to reputational damage through a ‘name and shame’ publication of non-compliant companies on a public register. However, the most significant impact is the possibility of properties becoming unlettable, rendering them stranded assets and threatening commercial value if improvements are not immediately undertaken.
This is just the first phase in the Government’s overall net zero proposal. The long-term trajectory requires that all non-domestic rented buildings will rise to a C rating by 2027 and to a B by 2030.
With regulations tightening over the next decade, landlords may be considering an incremental approach to upgrades. However, tenancy cycles (typically 1-5 years) and business sustainability concerns mean today’s occupants are already searching for tomorrow’s buildings.
Improving energy performance, however, can be a costly and complicated process. Commercial landlords and investors have expressed concern over the projected costs of converting their properties and real estate portfolios to EPC B ahead of the 2030 deadline. As Peter Cosmetatos, Chief Executive of the Commercial Real Estate Finance Council Europe, the trade association for European property lenders, explains, “Most owners […] don’t have sustainability teams or net zero plans or quite possibly the capital behind them on the equity side.”
According to recent research from Siemens Financial Services (SFS), it is estimated that there is over £60 billion worth of commercial property value at risk in the office and retail sectors combined. This is considerable but the energy efficiency potential is also significant. In fact, British companies (owners, landlords and tenants) are believed to be missing out on around £1 billion in cost savings achievable through investment in energy efficiency.
Working with specialist financiers, potential energy savings can be harnessed to effectively subsidise the investment, meaning buildings conversion can often be achieved at zero net cost.
Enabling investment with specialist finance
Given the expected costs of conversion, organisations across the public and private sectors are increasingly looking for financially viable ways to make the energy-efficiency upgrade. To meet this demand, specialist financiers are now offering financing packages which use future energy savings to finance buildings technology upgrades – covering condensing boilers, solar panels, heating ventilation and air-conditioning (HVAC), insulation, smart buildings controls, and any other technology required to upgrade a building to much higher energy-efficiency levels.
These financing schemes allow building managers to achieve a strategic upgrade at low or even zero net cost.
In the retail and offices sector, little capital is available for such retrofit projects either because landlords are looking for maximised yield, or because energy costs are usually passed on to the tenant. However, with F- and G-rated properties no longer lettable, the threat of non-performing assets is providing a compelling new incentive for energy efficiency upgrades. Specialist financing packages allow capital investment to happen without the need to tie up precious cash. In a sense, the building owner is getting a valuable outcome – reduced energy consumption – without having to make an investment
Typically, a reduction of between 15% and 25% can be made on energy expenditure by retrofitting a building with energy-efficient technologies. Once the financing period is over, and the energy savings have been harnessed to effectively pay for the retrofit, landlords and their tenants then continue over time to reap the full benefit of the energy savings achieved.
Commercial buildings conversion is an urgent priority for owners of F- and G- rated buildings, now unlettable on the UK market. Without immediate investment, these properties are at risk of losing their commercial value. Similarly, as regulations tighten any building below EPC B could become unlettable if not upgraded before 2030.
Alongside the urgent requirement to upgrade buildings, improved liquidity and energy cost savings make for a robust business case to invest in sustainability projects. The potential for these zero net cost conversion projects, offered by integrated technology-and-finance providers, remains considerable. The imperative is on building owners to grasp the opportunity as soon as possible, to ensure buildings compliance and to stop wasted and unnecessary energy consumption and cost.