How Energy Efficiency can Benefit your Bottom Line: A Tenant’s Perspective

Summer 2013

When thinking about energy efficiency in commercial real estate, we typically focus on building retrofits or best practices that benefit the property owner. Despite their obvious importance from a cash flow perspective, historically, tenants have not been part of the energy efficiency/green conversation. With the advent of the “green lease,” tenants are beginning to recognize they can benefit directly from leasing space in high performance buildings. Below are some emerging provisions that tenants are incorporating into their lease negotiations: 

Think and Act Locally When Executing your Tenant Improvement (TI) Strategy

Although overarching energy efficiency goals are an important aspect of a tenant’s real estate strategy, it is important to implement these goals through a local lens and avoid a “one-size-fits-all” approach. John Loper, a real estate developer in southern California offered some examples:

The local climate: Despite ripe conditions in sunny California, Mr. Loper indicated that just about 50 percent of his big box tenants request skylights, and that none has inquired about installing solar panels.

Lease trends: Retail tenants in California are demanding and getting LED lighting as part of their standard TI allowance — not the standard in most U.S. markets. LED lights are more expensive up front but require less energy and cost less to maintain.

Local utility costs: Tenants should request that landlords install equipment that can be operated by the least expensive fuel available in the area (i.e. natural gas vs. electric power).

Take Control Over your Energy Costs

Many multi-tenant mid- to high-rise office buildings are monitored for energy use under a master meter and operate under a full service gross lease structure where the property owner is responsible for all utility costs. In this scenario, a tenant may be able to negotiate rent, net of energy costs, through the installation of a submeter — if permitted by the local utility or municipality. Submetering has been around for a while but has not been widely implemented; despite research indicating that separately metered spaces consume 21 percent less energy than master metered spaces. This could be due to a somewhat exaggerated perception of the installation cost and lack of understanding about the economic benefits. An owner is more likely to agree to a submeter if:

1.  The tenant is leasing at least one full floor of space, where the installation cost on a per square foot basis is less, and where the owner would see a significant reduction in his or her operating expenses with the exclusion of this space.

2.  The space is in “cold shell” condition where build-out may include electrical rewiring and/or where new advanced mechanical and lighting equipment would interface seamlessly with metering software.

3.  The tenant and owner agree to limit submetering to lights and plugs, eliminating potential complications from submetering centralized HVAC equipment. This type of submetering would also protect the tenant from paying for potentially inefficient equipment owned by the landlord.

If these types of lease modifications are not available, tenants can look for a landlord willing to guarantee a certain level of energy performance in their building through an energy savings agreement or an energy efficiency insurance policy. Alternatively, tenants can demand a cap on energy or Common Area Maintenance (CAM) costs based on their estimate of energy usage in their space versus the landlord’s pro-rata allocation method.

In a nutshell, tenants can look to these practices as a way to enhance their bottom line as well as to satisfy external stakeholders and regulatory requirements.