Development Magazine Winter 2015/2016

Finance

Assessing the True Value of Deep Energy Retrofits

Strong market evidence demonstrates that energy cost savings — while significant — represent just one driver motivating investment in deep energy retrofits.

A DEEP ENERGY RETROFIT is a whole-building analysis and construction process that achieves much larger energy cost savings than a simpler energy retrofit. But the results often extend far beyond energy savings alone. Sharp Development’s deep energy retrofit of a 1970s-era Class C office building in Silicon Valley resulted in a net-zero energy facility that leased up much more quickly than expected (in three months instead of 18) and earned an extra $7.55 per square foot per year in net rent. This was even more significant than the energy cost savings that resulted from the increased efficiency and on-site solar energy generation.

Similarly, the International Monetary Fund (IMF) measured the success of the deep retrofit of its Washington, D.C., headquarters by the retrofit’s ability to reduce the risk of failing equipment, avoid a downgrade in market value and bring the building up to code compliance. For Caisse des Dépôts et Consignations (CDC), it was the expected 10 percent asset value increase to a 1930s-era building in Paris. For Malkin Holdings, it was the avoidance of millions of dollars in planned capital costs for the Empire State Building. For Hilton, it was the increased net operating income and property value, as well as the improved customer experience at its Los Angeles/Universal City hotel. And for the Rose Smart Growth Investment Fund, it was the boost in occupancy from 68 to 96 percent at the Joseph Vance Building in downtown Seattle.

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These stories corroborate strong market evidence that energy cost savings — while significant — represent just one driver motivating investment in deep energy retrofits.

Nevertheless, real estate investors generally neglect the value beyond energy cost savings that these stories highlight when they prepare and present capital requests for deep retrofits. The result: undervaluation of deep retrofit opportunities that leads to (unintended) underinvestment in efficient buildings, leaving millions of dollars on the table and increasing carbon emissions in the atmosphere. Incorporating the additional, albeit less tangible, value beyond energy cost savings into decision making is therefore critical to improve investor due diligence, enable better assessments of the value proposition for deep retrofits and, in turn, unlock needed capital.

A Methodology for Investors

In April 2015, Rocky Mountain Institute (RMI) released a new practice guide for real estate investors to capture all value beyond energy cost savings resulting from the execution of a deep retrofit project, and to address the failure of the market to fully recognize this value. The guide provides a comprehensive “deep retrofit value” methodology and complements the 2014 report RMI produced for owner-occupants.

The guide is useful to everyone interested in better understanding how energy-efficiency retrofits create value for Class A and B office buildings and better estimating this value. The basic value framework presented can also be applied, with adjustment, to other property types, including residential properties, new construction, tenant improvements and equipment replacement. Using the methodology in the guide leads to better-informed decisions about retrofit opportunities that can drive greater retrofit investment.

The guide demonstrates the importance of five value elements and describes how to incorporate them into decision making:

1) Retrofit Capital Costs. Retrofit projects can have little cost premium if they are undertaken at the same time as other capital improvement projects and if they take advantage of subsidies and other financial incentives.

2) Non-energy Operating Costs. Deep retrofits can reduce operating costs associated with maintenance, insurance and occupant churn rate as well as increase leasable space through equipment downsizing and improved occupant use of space.

3) Tenant Revenues. Retrofits can enhance demand, resulting in increased rents, occupancies, absorption and tenant retention.

4) Sales Revenues. Sales revenue premiums from deep retrofits result from higher net operating income, increased investor demand and reduced risk.

5) Retrofit Risk Analysis. The thorough identification and evaluation of risks enables owners to mitigate and accurately price those risks, which also helps maximize value from the other value elements.

Owners and investors can quantify these additional sources of value — and how they enhance the business case — by preparing a well-reasoned and -supported deep retrofit value report. RMI’s practice guide includes a sample report to demonstrate how an investor can prepare a compelling presentation of deep retrofit value for decision makers. The sample report illustrates the impact of using — or neglecting to use — a deep retrofit value methodology on the outcomes of investment decisions.

Calculating and presenting the five key sources of value beyond energy cost savings listed above will help unveil the often overlooked benefits of investing in deep energy retrofits and promote increased investment. 

For more information:

The full report (“How to Calculate and Present Deep Retrofit Value: A Guide for Investors”) and executive summary are available online.

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