Members of ULI’s Responsible Property Investment Council discuss how investors can integrate profitability, sustainability, and social benefits into real estate investment decision making.
How would you define responsible property investment?
Cherie Santos-Wuest: Investments that endeavor to produce risk-adjusted market-rate returns, result in measurable job creation and community revitalization for lower- to moderate-income residents, and draw on environmentally sustainable construction practices. These may also be considered to be triple-bottom-line or people/planet/profit strategies.
Todd Gomez: Responsible property investment describes a methodology that incorporates a triple-bottom-line approach focusing on people, planet, and profit. The Responsible Property Investment Council’s philosophy is that each component is important to making real estate investment, development, and financing decisions. One can measure the success of responsible property investing first and foremost by economic returns. However, a project’s impact on the environment and the community should also be important factors in the decision-making process.
Molly McCabe: It’s recognizing where the markets are headed, where the risks and the opportunities are headed, and making our investments future-ready. Every investment we make reflects our values. It’s not whether we should be responsible with our investments; it’s what values we want those investments to reflect. The triple-bottom-line principles are about consciously using our natural resources, reinvesting in our people and our communities, and recognizing that diversity leads to better decision making and stronger community ties. If we raise the standard of living for everyone, we create jobs and healthy places to work and live, which grows the tax base and raises asset values.
How do you approach the challenge of measuring a project’s social and sustainability benefits in a profit-driven business?
Philip Payne: It’s a balancing act. Economically, does it make sense to air-seal an existing apartment building and reinsulate it? Does it make sense to replace the entire HVAC [heating, ventilation, and air-conditioning] system? Does it make sense to replace some or all of the duct work? The first thing we look at is what it costs to do that work. Some strategies are so expensive you cannot figure out how they make economic sense, like trying to put high-density foam in the walls of an existing apartment community. But let’s say I air-seal, reinsulate, and put in a brand-new HVAC system. I think the rent will go up after I do that; it’s hard to document how much. But my expenses will go down because I have brand-new HVAC units that aren’t breaking down all the time and are under warranty, at least for the first five or ten years. The apartments will be much more comfortable. The utility bills will come down markedly. But what it really does is it makes the apartments more affordable to a wider range of people. It opens up the number of people who can come and potentially live in your apartment building, which I think forces the rents to go up over time.
Kirk Sykes: When we started the Urban Strategy America Fund in 2005, we decided to establish 12 measures of success. They included criteria such as how many of our projects included sustainability efforts, and at what level; how many included affordable housing, and at what level; how many worked with local community development partners; what were the economic development benefits of our projects, and how did they have a ripple effect; what was the potential for introducing minority- and women-owned partners to the profession. Those are some of the measures that we tracked, and we found that over half of our investments met all of our triple-bottom-line initiatives on some level. Those became the criteria that we measure projects by at every annual meeting.
Santos-Wuest: Quantifying social benefits has been the greatest challenge for those trying to implement responsible property investment practices. It depends on what type of social benefit the investor is trying to achieve and how [the investor] measures success. Many mainstream investors now routinely accept certification for energy efficiency because they realize that there’s a direct correlation between higher energy efficiency and higher valuation. But the social equity component has been harder to measure because investors define social impact differently. For instance, does a project provide, preserve, or expand affordable housing [for households earning] less than 80 percent AMI [area median income]? Does this extend to providing workforce housing [for households earning] greater than 80 percent AMI as well? Does the investment create jobs? Is it enough to create jobs, or do you need to create union jobs? Is it transformative for the existing community in that it creates additional middle-income job opportunities? How inclusive is it to women- and minority-owned businesses? It’s not easy to measure social equity because needs and priorities are not always the same across a multitude of markets and investor types.
McCabe: It doesn’t have to be an either/or calculation. It makes sense to evaluate the risks and opportunities that are coming together—the convergence of climate change, growing income inequality, and increasing urban populations. When large pension funds and large institutional investors make decisions that capitalize on short-term returns to the detriment of long-term value, they’re negatively impacting their returns and profitability over time. And many of these funds are looking to match their constituency’s desires, which may well involve addressing a social need. The [Washington, D.C.–based] Multi-Employer Property Trust, for example, has a responsible-contractor policy that requires union labor in all their projects.
What are some obstacles to more widespread adoption of responsible property investment practices?
Gomez: Education and awareness are key. Many times, social and sustainability benefits don’t accrue to a sponsor’s bottom line directly or immediately. However, the expense savings, rent premiums, and long-term social impact of responsible development are tangible benefits that are increasingly being measured and shared with the industry. Responsible property investment makes good sense economically, environmentally, and socially.
Sykes: Sustainability has become a trend in its own right. Developers understand that they can’t afford to risk that their asset will be valued for less because it doesn’t have the sustainability dimension that many trophy assets have. But the social-benefit aspect has not become as widespread. Certainly transit-oriented development has taken on more momentum. It’s become pretty widely known that in places where you have excellent economic growth, you want to try to migrate it through the use of public transit. Where we’ve probably had less adoption is in bringing in underutilized participants. The United States is on its way to having a majority of people who are people of color, and yet they’re woefully underrepresented in our industry. Women are represented, but not nearly as much as they could be. I’ve seen fewer trends toward creating opportunities for qualified women and minorities to become more involved in the industry.
How can investors encourage developers to incorporate more socially responsible aspects into their projects?
McCabe: Investors need to start asking developers to look at development from a systems perspective and recognize that it’s not about a single day or a three-year cycle. Instead of focusing on whether returns have increased over the most recent quarter or another short period of time, we need to ask whether we are building adaptable and resilient buildings, cities, and systems that can flourish in an uncertain future. When we limit our investing to our most recent profit-and-loss statements, we shrink our field of vision and diminish our opportunities, which adds risk and excludes some of the most important factors and consequences. When we expand our focus, it is easier to see the true cost and profit, which allows us to optimize our investment decisions. Ultimately, the capital markets and our investments can be a positive force for change.
Santos-Wuest: First, I would ask the developer how they would define a socially impactful investment. It could comprise any number of measurable outcomes, from creating affordable housing to expanding job creation or transforming a community. Then I’d encourage them to seek any subsidies or favorable statuses associated with the implementation of that strategy. This could range from anything from state and federal tax credits and direct subsidies for alternative energy to gaining priority treatment during the entitlement process.
Are lenders viewing socially and environmentally responsible considerations more favorably?
Sykes: Unfortunately, I think there’s been a bifurcation in the last ten years between those lenders who are focused on the triple bottom line and those that are focused just on profit. When we started our fund in 2005, it was possible to get Community Reinvestment Act investment from banks, and many corporations had an interest in a division that would invest limited-partnership capital into these kinds of funds. Since the recession, there has been a flight to safety and risk management, as well as regulatory-environment changes that mean that banks are much more heavily regulated by multiple regulators than they used to be. As a result, banks are more inclined to invest in purchasing low-income-housing tax credits than in community reinvestment efforts.
Gomez: In many ways, yes. Lenders are much more focused on credit. If the socially responsible aspects of a project can help mitigate risk by increasing demand for a development, enhancing efficiency, or improving structural soundness, then they make sense to lenders.
Payne: With very high-end developments, lenders have gotten the message. If you’re building Manhattan office space and you’re not building to the very highest LEED [Leadership in Energy and Environmental Design] standard, you’re not getting the international tenants. The lenders want the high-end tenants, and they’re starting to understand—and we’re starting to get some historical data to prove it—that environmentally sensitive buildings trade for higher prices because they attract higher-quality tenants. In the lowest-income developments, government programs encourage lenders to invest in projects that follow the triple bottom line. In the market-rate middle-income properties, it’s a little harder. Trying to upgrade older, existing middle-market properties is particularly hard right now. There’s not a universal belief that it matters.
What other trends are you seeing?
Santos-Wuest: For smaller-scale projects incorporating responsible property investment principles, an interesting recent development has been crowdfunding—especially in cities that attract millennial residents, who tend to invest according to their social values and prefer to do so locally. This appears to have traction in “edgy” neighborhoods in urban markets. That trend might not be as deep as everybody thinks it could be, but I don’t believe it’s going to diminish or disappear entirely either. Other internet-based platforms that connect real estate stakeholders (service providers, funders, developers, public/private players, etc.) and that disintermediate real estate have real potential to disrupt the market.
Gomez: Given the development of green building materials and the greater awareness of sustainability, it’s becoming much, much cheaper and easier to incorporate those aspects into development. And there are a lot of aspects of transit-oriented development that will continue to be important in urban planning, given this country’s demographics. In the affordable housing space, I also see state and local housing agencies incorporating green building standards into their construction requirements so that sustainability will become the norm rather than a design choice. This is good for developers, communities, residents, and those who, like me, invest in them.
Payne: After years of a slow start, I’m hearing more and more people talking about why responsible property investment makes economic sense. They aren’t just asking, “Did my revenue go up or my expenses go down?” but also looking at increased resident retention and satisfaction, increased referrals, and the chance to help with branding. People are starting to look at environmental and social aspects the same way they do at every other part of real estate.
Ron Nyren is a freelance architecture and urban planning writer based in the San Francisco Bay area.