EPC… easy as 123?

For those yet to come across them, EPCs are visually similar to the energy labels we readily associate with white goods, such as fridges and washing machines. They illustrate the energy efficiency capability of buildings on a scale from A-G (where A is efficient) and are required whenever a building is constructed, rented or sold. This means that they are targeted squarely at the workings of the property market.

Many believe that EPCs are the foremost indication that the sustainability agenda has now landed firmly on the property sector. Whilst EPCs are in no way a true or robust measure of the sustainability performance of buildings, it is certainly the case that they represent a significant shift in the way in which policy-makers are seeking to influence building performance by introducing market-based instruments.

In many respects this is to welcome. It reinforces the premise that regulation can be designed to pursue environmental sustainability objectives, all the while going hand-in-hand with competitiveness. This is a message which Drivers Jonas, as a member of the Aldersgate Group, is working hard to promote.

However, conceptual promise and practical reality can be disconnected.

A question of awareness
Improving the sustainability performance of buildings hinges on a thorough appreciation of the issues across the property sector. I have spoken many times in the past of my alarm over the persistent lack of understanding about the major social and environmental challenges with the industry faces, and in particular, the risks that these pose to commercial and operational performance.

That being said, awareness of the requirements for EPCs when completing or marketing buildings appears to be growing quickly. If truth be told though, I worry that the introduction of EPCs may actually reinforce some of the misguided and counter-productive perceptions about the meaning of sustainable property.

My concern is two-fold. Firstly, it is based on the fact that energy is only one of a number of important and interconnected sustainability considerations. Sentiment suggests that the market impact of EPCs may well be such that other important criteria – such as occupancy comfort and productivity – becomes sidelined when decisions are made on investment and occupation. Secondly, the fact that EPC ratings are based on notional building models and do not measure occupational energy performance undermines their potential usefulness as an estate and building management tool.  

A question of robust measurement
The fact that actual energy consumption in occupied buildings does not feature in the asset rating (and therefore, does not pay heed to the behaviour of occupants, construction quality, nor the level of up-keep in building fabric and systems) is one of a number of methodological concerns. In addition, the following key weaknesses are relevant and worth noting:

Practicality – Typically, over 200 data entries are required to generate the asset rating, so the breadth and detail of building information needed can be very time-consuming and costly.

Relevance – Standardised recommendations for improving energy performance which arise from the certification process may take no account of other important building considerations, such as heritage.

Comparability – The various approved software interfaces through which the asset calculation programme (typically SBEM) can be run have been shown to generate different outcomes when the same information is inputted, raising concerns about the validity and comparability of asset ratings.

The requirement for Display Energy Certificates (DECs) for ‘public’ buildings from 1st October offers a more sensible and helpful framework for measuring energy performance. DECs will also show an energy rating for buildings, but this will be based on the actual consumption of energy associated with heating, cooling and powering those buildings. This requires simple data, and is much more helpful as an energy management tool.

For this reason, and even before EPCs became live, Drivers Jonas was advising that an eventual roll-out of occupational ratings to commercial buildings would be likely. We now know for certain that government is planning to make DECs a requirement for commercial buildings which are visited by large numbers of the public, such as supermarkets, within the next couple of years. 

There is now a growing tide of support within the industry for operational ratings across the whole of the non-domestic sector. The Campaign for Real Data launched recently by the UK Green Building Council provides an umbrella for this lobby, and I recently advocated the approach, along with leading figures from the property sector, whilst giving evidence to an all-party parliamentary committee on improving the environmental performance of existing non-domestic buildings.

A question of value
Despite these limitations and the call for major changes to the system, there is no getting away from the fact that EPCs will impact considerably on the property market. Already, we have seen government build on its existing commitments to only occupy new space which achieves BREEAM Excellent standards by signalling the additional requirement for a minimum B-rating on energy performance. Reputational concerns – as well as the prospect of future regulations and taxation relating to non-intensive energy consumption – are likely to lead the corporate sector to make similar commitments; many have already followed the government lead on BREEAM. 

It is now widely accepted that asset ratings relating to energy performance will become a consideration of value in both the sale and rental markets, and that they stand to impact considerably on voids. Of course, this will transpire to varying degrees; there are many other factors which are taken into account in assessing property value, and the relative attention afforded to the EPC rating will vary from tenant to tenant, purchaser to purchaser, and building to building.

What seems fairly certain though, is that stock which achieves a lower asset rating than its peers will face the risk of discounted value, leading to projections of accelerated depreciation and market obsolescence in energy intensive buildings. In some circumstances, it is conceivable that A-rated buildings may command a value premium compared to their peers; the CIBSE Energy Performance Group is said to think so, and evidence relating to the market value of Energy Star buildings in America appears to support that prediction.

The key message for investors is to know your stock. How do your buildings compare with their peers? How is money best spent on maintenance and refurbishment to enhance the asset rating?

A question of shared interests
Bearing in mind the cost implications of procuring EPCs, especially across large portfolios, one of the key questions which landlords – and indeed tenants – are asking at the moment is to what extent (if at all) is the cost of procurement recoverable through service charges.

When considering existing leases, opinion on this appears to be mixed, but David Leedham, Partner at law firm Speechly Bircham LLP, and I are agreed that there may well be scenarios in which the wording of the lease will allow a landlord to seek recovery of a fair proportion of the costs from tenants on the premise that the benefit to the tenant is the information – information is empowering and therefore has an intrinsic value.

If a landlord procures an EPC and does not make it (or a copy) available to the tenant, then there is unlikely to be any grounds for cost recovery. However, if the landlord supplies the EPC, or the information necessary to produce one, to the tenant, and this is used to inform the tenant’s CSR reporting or for the sub-letting or assignment of the premises, then it could be fair for the landlord to seek recovery of a reasonable proportion of the costs of procuring the EPC. Of course, what constitutes fair and reasonable could well be a matter for legal challenge.

The introduction of ‘green leases’ (having clauses which place energy performance related duties on both landlord and tenant) and/or EPC specific clauses into leases, may see EPC procurement costs shared between occupiers and the landlord.

There is then the prickly question of cost recovery via the service charge, or the effect at rent review, of implementing recommendations in the EPC to improve energy performance. One thing is clear. As new regulatory mechanisms such as the forthcoming Carbon Reduction Commitment take hold, it will be increasingly recognised that there is mutual benefit in collaboration between landlords and tenants on minimising energy consumption. To this end, the notion of shared interests, and therefore shared costs, is likely to become better understood and accepted.