Commercial developers and landlords “could be sitting on a capex time-bomb” as pressure grows to clean up the environmental performance of their buildings.
Jefferies analysts Mike Prew and Andrew Gill published a note on Friday titled “eMission Impossible? The Cost of Going Green is Getting More Uncertain”, in which they argue that the work of improving the energy performance of buildings “is exposed to hidden and unbudgeted capex inflation and is now influencing lease and debt pricing”.
“Our concern is that unbudgeted capex of retrofitting buildings is exposed to material cost inflation and is currently hidden,” they said. “Many landlords may be relaxed for now, knowing their buildings are rated E or better for energy efficiency, but they could be sitting on a capex time-bomb.”
Commercial landlords need to ensure their buildings have energy performance certificates with a minimum rating of C by 2027 and B by 2030. At the moment, some 85% of properties are sub-B. Those brown buildings are “carbon zero ‘sleeping giants’,” Prew and Gill said, and will be tougher to borrow against as lenders become more “carbon conscious”.
“As lenders tighten underwriting standards, credit supply to brown buildings without plans or capital to decarbonise within one to two years will, we think, lessen liquidity and result in discounted valuations,” the analysts added.
But accelerating retrofitting plans will bring its own financial challenges. “Going deep green rather than greenwashing to meet the minimum EPC requirements is set to impact both sides of balance sheets,” Prew and Gill said.
“Landlords risk either NAV dilution with brown building discounts or diluting return on capital (or earnings) on speeding up previously unbudgeted greening capex at a time of rising material input adding to retrofitting inflation.”
The Jefferies duo singled out efforts by Derwent London and Helical. The former has “raised the bar” by employing external consultants to undertake engineering inspections of its buildings, they added, noting: “It is refreshing that Derwent seems to have adopted a ‘nothing to hide’ approach, and we stress the use of external consultants focusing on the 38 buildings comprising 2.2m sq ft sub-band A-B.”
Helical was praised for being “pure green”, with a portfolio 99% comprising properties in the A-B EPC band.
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