How ESG can drive a PRS rental premium

As experienced BTR and PBSA investors, we are part of the constant discussion around how to build net zero real estate. No matter which way you look at it, it’s easier to achieve net zero carbon by repurposing existing buildings and avoiding the vast embodied carbon involved in any new build. When it comes to refurbishment, people like to talk about how to improve an office to BREEAM excellent or very good. When it’s a house or flat, it becomes trickier. Add in the fact that British housing stock is the oldest in the European Union and it’s difficult to know where to start. Things are changing though. The private rented sector market is one of the fastest growing in the UK, exhibiting growth of 4.1% per annum since 2000. While the investment swells, the sector has been caught in the crosshairs of various new requirements from government in the race to respond to the climate crisis. As the sector seeks to overcome its biggest challenge yet, only institutional investment can improve those the sustainability of PRS. Setting the bar The UK government has set the world’s most ambitious climate change target in law, committing to reduce carbon emissions by 78% by 2035, compared to 1990 levels. In January, a consultation on EPC ratings for rented properties also closed. This included government’s ambition to upgrade as many PRS homes as possible to Band C by 2030 “where practical, cost-effective and affordable”. In May, Rightmove data reported that 1.7m properties with an EPC rating between D and G will never achieve the statutory C rating, the minimum level of energy efficiency the government says will be required in 2030. One of the biggest challenges is the granularity of the residential sector, where institutional ownership accounts for just 3%, with the majority still owned by small investors. Improving a building’s environmental footprint has always been a cost-driven exercise, and for individual or even portfolio landlords, the incentive is just not there. Institutional investors are starting to wake up to the opportunity in the space, which has the potential to transform the sector. Earlier this year, Moorfield entered a £600m single family partnership with Bricklane to acquire a portfolio of 2,000 one- to four-bedroom houses and flats. Not only do we think we can provide superior service and quality of home to a wider range of tenants, but we are also avoiding the carbon-cost of demolition and construction. Obvious motivation For institutional investors, the motivation to improve the green credentials of their assets is well known: GRESB points, access to cheaper finance, and a better profile amongst existing and potential investors. Specific to the PRS sector is that better ESG credentials should, over the long-term, increase demand from occupiers, translating into a rental premium. While affordability remains the key driver (expect a greater focus on energy bills as prices rise), the younger generation are increasingly prioritising environmental and social considerations. With our portfolio, the initial focus is less about the EPC rating and more about achieving net zero carbon. A first step is taking homes off gas and replacing all gas boilers with electric boilers. This means you can then use green electricity. Then we look to maximise the efficiency by adding insulation, double/triple glazing, smart controls and draught excluders. Incentivising change An ongoing challenge for landlords is the tenant engagement piece. At Moorfield we have a three-step process across our directly operated assets and we will be adapting this across our single-family portfolio. The first step is data gathering and initial tenant engagement, followed by education and finally incentivisation. The professionalisation of the sector will bring benefits of scale. Owning 5,000 homes would allow you to negotiate better pricing for clients. Or green energy could be a requirement for tenants, in return for discounted rents. A combination of the sectors’ favourable structural trends and the mix of defensive, visible income and capital appreciation, means that as smaller investors exit, it will be responsible capital such as pension funds and local authorities entering the sector. They can be the driving force in improving its sustainability credentials. We never look at any sector of physical space without thinking about the ESG credentials because it is so important to our investor base. Having outlined our net zero pathway last year, we now have an opportunity to demonstrate that the PRS sector can be an accessible, responsible, high returning asset class that should be looked at more closely by institutional investors. Sadie Malim is head of special projects and legal at Moorfield Group