Out-Law Analysis 7 min. read

The case for retrofitting buildings is growing stronger

There are environmental, legal, financial, and social reasons why investors, owners, occupiers, and funders of commercial real estate should step up their interest in retrofitting buildings.

The environmental case

It is estimated that 25% of the UK’s greenhouse gas emissions are directly attributable to the built environment. There is widespread recognition that reducing emissions associated with the built environment would go a long way to the UK meeting its legally binding target of achieving ‘net zero’ emissions by 2050. The UK government itself has said that “virtually all emissions arising from the built environment” will need to be eliminated if the target is to be met.

According to the UK’s Green Building Council (GBC), this will require the widespread retrofitting of commercial buildings.

As a report published by the GBC in January highlighted, retrofitting can take various forms. It can range from optimisation and light retrofit projects, which might involve relatively modest, low-cost, alterations to buildings, such as replacing halogen light bulbs with more efficient LEDs, to deep retrofits that can involve making major changes to the fabric of a building to improve the building’s performance.

Deep retrofit projects require significant capital investment, but project data derived from a GBC taskforce suggests the environmental benefits that can be achieved are more significant – the taskforce found they could reduce operational energy use by 37% from optimising existing buildings and completing a light retrofit, compared with 60-65% reductions from a deep retrofit.

In our work on retrofit projects, we are also seeing an appetite for installing heat pumps in place of traditional gas boilers, as well as interest in installing renewable energy generation assets on site, to remove their reliance on sourcing power from the electricity grid and ensure the electricity used in the building is generated from renewable sources. Other popular energy efficiency measures include replacing old windows with new ones that conform to higher standards on airtightness and upgrading air conditioning units.

Digital technologies are also playing an increasingly important role in enabling building performance improvements, including in respect of energy efficiency. Digital twins of real estate assets can help asset owners and managers to undertake modelling of changes that could be made to physical buildings, to understand how it could improve their performance, while sensors can also help relay data on how buildings are operated, which can be fed into digital twins and help inform building managers about, for example, the impact that leaving windows open has on the use of heating and cooling solutions.

Greater weight is being given by developers and investors to the embodied carbon cost of construction of existing buildings and therefore the environmental benefit in retrofit, rather than rebuild, projects. This, combined with technology and retrofit methodology becoming more widespread, could result in an upward trend of retrofit projects.  

Climate and environmental factors are only part of the picture. They do, though, have a bearing on other drivers of retrofit, including policy and regulation, industry standards, and finance.

The legal case

In policy terms, the UK government has said it is intent on laying legislation this year that will implement two new standards pertaining to the energy efficiency of new-build properties, which it opened a consultation on late last year. The Future Homes Standard (FHS) will apply to new residential buildings, including homes and blocks of flats, while the Future Buildings Standard (FBS) will apply to all other new non-domestic buildings. The consultation closes on 27 March 2024, with the legislative measures proposed to take effect some time in 2025.

In tandem, a stiffening of energy efficiency standards applicable to existing domestic and non-domestic property is also anticipated.

In 2021, the government proposed requirements for a minimum of an energy performance certificate (EPC) C rating for all non-domestic lettings by April 2027 and of an EPC B rating for all such lettings by April 2030. While it has subsequently published a response paper, it has yet to confirm whether it will implement the proposals as drafted. All related government announcements since the consultation closed in 2021 have referred only to the 2030 proposed requirement for a minimum EPC B, so it is particularly unclear whether the 2027 EPC C standard that has been proposed will be implemented.

The prospect of a UK general election in the coming months and revisions announced by UK prime minister Rishi Sunak to UK net zero policy last autumn add to the uncertainty over future regulation.

Despite this, the industry itself has been getting ahead of any legislative changes, perhaps recognising the opportunities that stem from becoming a climate leader.

Many asset owners and investors have already initiated or completed projects to retrofit their properties so that they can conform to any increase in the minimum EPC rating that is imposed. In addition, industry bodies, including the GBC, the Royal Institute of Chartered Surveyors (RICS), and the Chartered Institution of Building Services Engineers (CIBSE) are developing a new Net Zero Carbon Buildings Standard, adherence to which is aimed at ensuring a building’s operational and embodied carbon performance is within limits that essentially falls within the “carbon budgets” prepared by the Climate Change Committee.

However, a foreword to the GBC’s January report, Basil Demeroutis, managing partner at Fore Partnership, warned that retrofit projects are not happening at the scale or speed needed for the UK to meet its climate targets. He said the rate of retrofit current sits “at around 1% to 1.5% of commercial property stock per year”.

The financial case

Beyond the climate and compliance considerations, there are potentially severe financial consequences for inaction too.

In its report, the GBC warned inaction could leave many asset owners “vulnerable to stranded assets” – property they hold that no one wants to buy or rent, or at least buy or rent at a price that is commercially viable.

Conversely, there are commercial benefits that retrofitting offers, for investors, asset owners, occupiers, and funders.

For investors, there is a “clear green premium” to be obtained, as Demeroutis put it. He said that retrofitting can add 15-20% to a property’s value, an assertion that is supported by separate research undertaken by JLL, which examined 592 ‘pure’ office investment deals that took place in central London between January 2017 and December 2021.

Retrofit projects is something that funders, such as banks, can also get behind as they seek to demonstrate their ‘green’ credentials, hit their own green targets, and respond to pressure from regulators, shareholders, and activists in respect of ‘greening’ their loan books.

Climate and sustainability targets that businesses set themselves is driving corporate occupier demand for energy efficient property and is helping to drive the increase in the value of properties that have been upgraded. For asset owners, this offers an opportunity to increase their occupier base and achieve higher rent rates.

Both asset owners and occupiers can also benefit financially from the energy savings that can be achieved by retrofitting buildings to make them more energy efficient. Demeroutis said that the prize for retrofitting buildings in London alone could be annual savings in electricity costs totalling more than £1 billion.

The GBC said that, while the amount of unoccupied office space is currently at its highest level in the UK since 2014, as the effects of remote working, accelerated by the Covid-19 pandemic, continue to impact on demand, there are a range of benefits to be obtained from retrofitting office space.

“Premium grade A office space with clear sustainability and wellbeing credentials is highly sought after and seen as an effective way organisations can attract and retain talent, therefore at an asset level demanding higher yields and experiencing shorter void periods,” the GBC said.

The social case

There is social value that can be derived from widespread retrofitting of the UK’s built environment too. Demeroutis highlighted this in his foreword to the GBC report. He said: “Transforming outdated buildings creates environments that positively impact communities. Moving quickly to implement a broad retrofit strategy in our cities will improve health outcomes, build community resilience, and improve the most important metric – happiness. Retrofits also drive industry transformation and ensure a just transition by creating green jobs and upskilling workers into the industries of tomorrow. And imbedding technology in our retrofits helps to make our buildings work smarter, improves user experiences, and reduces costs.”

Of course, retrofitting is not the only option. An intense debate has been taking place about whether the complete demolition and redevelopment of buildings offers a lower carbon alternative to their retrofit and reuse. This debate has been at the centre of an ongoing legal challenge brought by Marks and Spencer (M&S) against an earlier decision by Michael Gove, the secretary of state for levelling up, housing and communities, who had refused M&S planning consent to demolish and redevelop its former flagship Oxford Street store in London. The High Court recently upheld the retailer’s legal challenge, meaning the planning application will need to be reconsidered the secretary of state.

While other factors are at play in the M&S case, including issues concerning the harm to heritage assets, the environmental impact of retrofit and reuse strategies compared to demolition and redevelopment is likely to be at the centre of decision making over how to decarbonise the UK’s built environment going forward. This debate will be informed by increased understanding and improvements made to whole life carbon assessments, but it could also be shaped by policy.

City of Westminster has proposed “a retrofit-first approach” as part of changes to planning policy that it is consulting on. If implemented, it would mean developers would have to “explore the option to retrofit before demolishing buildings in the city”.

Though confined to one local authority area in London, the initiative is likely to be watched with interest by industry and other policymakers. It perhaps signals that what some have considered to be best practice may become formal policy, in what could be the next evolution of the debate over ‘retrofit and reuse’ versus ‘demolish and redevelop’.

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