Value Beyond Cost Savings - Green Building Finance Consortium

Value Beyond Cost Savings: How to Underwrite Sustainable PropertiesThe model inputs are broken into the following categories:• Revenue;• Expense;• Leasing Expenses and Capital Reserves;• Property Acquisition and Disposition;• Financing; and• Investor Tax.Key inputs influenced by sustainable properties include rental rates, annual rent growth,down time between tenants, renewal probability, utility expenses, tenant improvementsand leasing expenses, and a growth factor for expenses other than real estate taxes. Theinput assumptions shown in Exhibit V-8 are those that generate the financial performanceresults as presented in the full DCF model presented in Appendix H.As the DCF input sheet in Exhibit V-8 illustrates, many factors beyond rents or salesprices influence financial performance. In many cases, depending upon the particularmarket conditions and nature of the sustainability improvements, market rental rates orannual growth rates may not change significantly, but renewal probabilities, the downtimebetween tenants, absorption levels, operating expenses and other changes can result,increasing value. It will depend on the nature of the property, space users, marketconditions, and other factors.Perhaps most importantly, sustainable property investment can reduce the risk associatedwith a particular property’s cash flow. As discussed earlier, lower risk could reducecapitalization rates applied to final year net operating income, increasing potentialappreciation on a property and reducing the discount rate applied to the property’s cashflow over the holding period.Investors evaluating property investment options should directly consider reduced risk dueto sustainability investment. Investors are willing to accept lower returns if risks aredemonstrably lower. For example, investors that are confronted with multiple options fortheir investment dollars will not always choose the investment with the highest rate ofreturn. In the real world, different types of investments have highly different risks, and onan informal “risk adjusted” basis, lower risk, lower return investments are often selectedover more risky, higher return investments. Factors like the quality and mix of tenants, thespecific length and nature of existing leases, the level of implied occupancy increase in thecash flow, and many other factors affect the relative risks of a stream of cash flows. Aswill be discussed in the next section, better analysis and articulation of these risks willresult in increased value for sustainable properties.A well-constructed DCF model that enables detailed sensitivity analysis can be animportant tool in determining the financial implications of alternative sustainable propertyinvestments. In our real world office property example, a 30% reduction in electricity128