Value Beyond Cost Savings - Green Building Finance Consortium

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Value Beyond Cost Savings: How to Underwrite Sustainable Propertiescost, which will typically under-value sustainable properties and features, often negativelyaffecting the proper allocation of capital to sustainable improvements.9. Valuers Need to Get Better at Integrating Risk Analysis into ValueValuers have historically done a poor job of analyzing and presenting their assessment ofhow property risk affects property value. In formal full narrative valuations, where acomplete DCF is implemented, valuer’s assessment of risk is largely reflected in theirselection of discount and residual capitalization (cap) rates. 80 Valuer’s selection ofdiscount and cap rates is primarily based on their assessment of the returns required byinvestors to invest in a particular property. Generally, the assessment of risks is not wellpresented, with a focus on the source of market rates. When market data on requiredcapitalization and discount rates is limited, valuers do more work to assess and presentpotential risks and “build-up” likely discount rates.Because so many sustainable property investment decisions are not based on formal fullnarrative valuations, but on internal rates of return, simple payback analysis, and othertypes of financial analyses, where risk and related value considerations are often not wellpresented, valuers that want to assist decision-makers when completing less formalvaluation work need to do a more rigorous and logically presented assessment of risks.Valuers are further compelled to more thoroughly understand risk issues becausesustainable property valuation issues are largely tied to risk considerations (see 40-pageGBFC Costs and Benefits Checklist in Appendix G).While valuers need to do a better job, investors and lenders have even more compellingreasons to improve their practices as discussed in the Risk Analysis and Presentationsection of this Chapter. Valuers need to be aware of the potential valuation affects ofenhanced risk consideration by investors as the industry matures.10. Performance Measurement Is Key to Sustainable Property PerformanceValuation quality is significantly influenced by the access to proper data that isconsistently available for both the subject property and comparables. For sustainableproperties, property information from the subject and comparables has to be sufficientlydetailed in the areas of property descriptions, resource use, occupant satisfaction, andselect other areas to enable valuers to properly adjust sales and lease comparables toreflect the value of sustainable attributes.As discussed in depth in Chapter IV, Section F., valuers need to improve their assessmentof the market response to sustainable building performance. Better data and methods areneeded to consistently measure regulator, space user and investor demand.80 In a ten-year DCF analysis, capitalization rates are typically applied to 11 th year Net Operating Income to estimate aresidual sales price, which is then discounted back to the present along with the Net Operating Incomes from years 1-10to get a present value.144
Value Beyond Cost Savings: How to Underwrite Sustainable Properties11. Energy is a More Critical Issue for Sustainable Property ValuationEnergy/Carbon reduction is more critical to sustainable property value because of thesubstantial projected energy savings of many sustainable properties and the growingimportance of the value of energy/carbon reduction investment beyond its operating costsavings.Many sustainable properties project energy savings of 30% or substantially more. The costsavings alone from a 30% reduction in energy costs can result in 2+% increase in value.Accordingly, since such savings can not be verified by historic energy use data for similar(non-sustainable buildings) or traditional rules of thumb, valuers need to apply more duediligence to such estimates than they have in the past. In Chapter VI, Section E, we presentan entire section on underwriting energy/carbon reduction investment that focuses onassessing the reliability and accuracy of forecasts.More important than costs is the critical role that reduced energy/carbon use has inachieving environmental certifications and meeting growing space user and investorthresholds for minimum energy/carbon efficiency. It is important to understand that whileenergy/carbon efficiency may contribute significantly to value, the value loss due toobsolescence (because property does not meet current market standards) will be limitedand affected by the cost to cure such obsolescence.J. ConclusionsSustainable property financial modeling and analysis presents challenges in integratingqualitative costs and benefits information into more quantitative financial decision-makingmeasures like value and rates of return. Fortunately, traditional discounted cash flowanalysis, widely used and understood in the real estate industry, provides an excellentframework for conducting this analysis.145
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Appendix FSustainable Property Fina
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Appendix GSustainable Property Cost
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Appendix HDiscounted Cash Flow Anal
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Value Beyond Cost Savings - Green Building Finance Consortium

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