Integrating sustainability into property risk assessments for market transformation

Abstract

One way to increase the demand for sustainable buildings is through the description, assessment, and communication of their economic advantages and reduced risks in comparison with conventional buildings. These benefits can also be expressed through favourable lending and insurance conditions. However, a precondition is the integration of sustainability issues into the processes used by the financial and insurance industries for assessing property assets (e.g. risk assessment, rating, and valuation). Thus, the valuation and property rating process itself and those involved with it have a key role. Due to new international banking capital adequacy rules (Basel II), property rating and risk assessment systems are being further developed and implemented by a number of European banks. To some extent, these systems already contain direct or indirect approaches for integrating sustainability issues. Test-ratings reveal banks' existing methodologies, instruments, and criteria for assessing property assets (as well as their cash flow generation) can be harnessed to express and communicate the advantages and benefits of sustainable buildings. The inclusion of sustainability-related rating criteria sends out an important signal to the property market and holds a huge potential for market transformation. However, the property-rating process should be linked more closely to and underpinned by the results of existing assessment methods and instruments developed by the sustainable building community.

Une façon d'augmenter la demande en bâtiments durables consiste à décrire, évaluer et faire connaître les avantages économiques de ces bâtiments et les risques réduits par rapport aux bâtiments classiques. Les conditions favorables de prêt et d'assurance sont d'autres avantages intéressants. Toutefois, parmi les conditions préalables figure l'intégration des questions de durabilité dans les processus utilisés par le secteur de la finance et de l'assurance pour évaluer les actifs immobiliers (par exemple, évaluation des risques, classement et appréciation). Aussi, le processus proprement dit d'évaluation et de classement et tous ceux qui y participent ont un rôle majeur à jouer. Du fait des nouvelles règles internationales d'adéquation du capital imposées par les banques (Accord de Bâle II), les systèmes de classement des biens immobiliers et d'évaluation des risques sont améliorés et mis en œuvre par un certains nombres de banques européennes. Dans une certaine mesure, ces systèmes contiennent déjà des approches directes ou indirectes en vue de l'intégration des questions de durabilité. Les classements-tests révèlent que les méthodes actuellement utilisées par les banques, les instruments et les critères d'évaluation des biens immobiliers (ainsi que la génération de liquidités) peuvent être maîtrisées pour décrire et faire connaître les avantages des bâtiments durables. L'inclusion de critères de classement liés à la durabilité est un signal important pour le marché de l'immobilier et contient un immense potentiel en vue de la transformation du marché. Toutefois, le processus de classement des biens immobiliers devrait être d'avantage lié aux résultats des méthodes d'évaluation existantes, s'appuyer dessus ainsi que sur des instruments développés par le secteur des bâtiments durables.

Mots clés: Banque, Bâle II, conditions de prêt, transformation du marché, classement des propriétés, évaluation des risques des propriétés, évaluation des propriétés, bâtiment durable

Keywords:

• banking
• Basel II
• lending conditions
• market transformation
• property rating
• property risk assessment
• property valuation
• sustainable building

Acknowledgements

The paper reports on selected findings of a research project undertaken by the authors and supported financially by the Bundesamt für Bauwesen und Raumordnung (BBR; German Federal Office for Building and Regional Planning). The authors thank the Editor and six anonymous referees for very constructive critique and useful comments. They also thank Jürgen Kertes, Universität Karlsruhe, for providing intermediate results of his current diploma thesis.

Notes

¹The technical feasibility can be demonstrated (e.g. Kibert, 2005) and that the basics for a harmonized description, assessment and reporting of the sustainability of buildings will be available in the near future through international (ISO TC 59 SC 17) and European (CEN TC 350) standardization activities. Also the current discussion whether sustainability assessments of buildings should either follow scientific or marketing principles will not be further addressed.

²For example, see Matthiessen and Morris (2003) who found that many building projects can achieve sustainable design within (!) their initial budget, or with very small supplemental funding (less than 3% of the initial budget).

³However, the required property rating systems will need to be tested and approved by the national banking supervisory authorities.

⁴Apparently the development of property rating systems for bank financing purposes is not so much an issue within countries such as the US and UK since bank financing does not play such an important role. For example, in Germany the share of bank financing among industrial corporations is 71% while in contrast this share is only 10% in the UK and 18% in the US (Holter, 2005, p. 12). Nonetheless, the need to develop methods for property professionals to report property risks to clients is also evident in these countries. For example, due to the lack of appropriate methodologies, Adair and Hutchison (2005) have recently proposed a property risk scoring system based on a standard credit rating model.

⁵Since summer 2006, VÖB's rating is also accessible and usable through an internet platform which is, however, only available in German (http://www.v-ia.de).

⁶Note that some of these methods, instruments and tools only relate to partial aspects or single dimensions of sustainable development. For example, ‘green’ building rating systems usually only focus on environmental issues or on a combination of environmental issues and aspects of occupant health and comfort.

⁷These 17 towns include Chemnitz, Dessau, Dresden, Erfurt, Gotha, Halle, Illmenau, Jena, Leipzig, Magdeburg, Meiningen, Merseburg, Rostock, Schwerin, Stralsund, Weimar and Zerbst.