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One phenomenon hotter than global warming is ESG: the environmental, social and corporate governance framework that has taken the business world, quite literally, by storm. As a response to climate change, as well as to pleas for increased diversity, ESG has impacted both commercial real estate and corporate America at large.
Environmental and social principles certainly drive aspects of ESG, but it is fundamentally a framework to inform investment strategies, using quantifiable information about a company’s exposure to, or investment in, the good of its people and the planet.
Such a framework is not new. ESG has been around for quite some time, not only through the explicit ESG label but also through similar business initiatives to strategically invest in environmental and social changes. In recent years, however, ESG has become an increasingly cited acronym — as well as a controversial point of discourse. It’s been widely scrutinized in business and legislative matters, thanks in no small part to the urgency of climate change and the call for better DEI initiatives following the early 2020 police murder of George Floyd. Pressures to respond to both have strengthened the spotlight on ESG.
And, like any overarching policy, ESG has been met with a mixed bag of responses. The criticism widely falls into two camps. First, there are those who outright oppose ESG as an ideological incursion and part of a leftist agenda. Then, there are those who recognize ESG’s positive intentions, but ultimately view the framework as a dangerous, unhelpful and unmeasurable resolution for major climate and diversity problems.
Elon Musk straddled both when he declared ESG a “scam.” His outcry came in May, after Tesla, despite manufacturing electric cars, failed to qualify for the 2022 S&P 500 ESG index. The index scores companies’ stock values based on how they meet set ESG criteria, and ultimately excluded Tesla due to its lack of focus on low-carbon initiatives, as well as allegations of racial discrimination and subpar factory working conditions.
Beyond the business world, ESG has become an issue in the midterm elections, dismissed by critics as part of a “woke” agenda, with legislation slated to punish companies that comply with pro-ESG policies. In July, Florida Gov. Ron DeSantis criticized ESG as a form of ideological corporate power that he says impedes investments. DeSantis proposed — and, as of Aug. 23, passed —legislation preventing state fund managers from considering ESG in investing. Similarly, The New York Times recently reported on West Virginia’s plans to punish banks that no longer support the coal industry.
The media’s on it too. The Wall Street Journal editorial board has been on a tear against ESG of late, and a July cover of The Economist splashed the tagline: “ESG: Three Letters That Won’t Save the Planet.”
“We’re seeing, of course, a lot of pushback on the Hill,” said Sairah Burki, managing director at The CRE Finance Council (CREFC). “It almost feels like for certain policy makers, lawmakers, just the moniker of ESG kind of raises hackles.”
Burki equated ESG to a political lightning rod, in which criticism often comes across as emotional rather than grounded in reality. Staunch pushback to ESG is certainly not new, but, however emotional, the continual and vocal outcries beg the question: How does CRE truly feel about ESG?
“I think the more efficient, the more green, the more sustainable our developments are, the more they have longevity, the better it is for the world,” said Isabella Chandris, real estate business development associate at real estate investment firm PTM Partners.
Chandris stated plainly that she perceives no downsides to ESG but views the framework as a natural progression within real estate. PTM Partners specializes in opportunity zones, so ESG’s emphasis on the “S” has long been ingrained in the firm’s fabric.
“We’ve been doing sort of the ‘E’ and ‘S’ even before it was given this kind of moniker of ESG,” said Chandris, pointing to affordable housing as a hallmark of real estate’s long-time commitment to the ‘S.’
This idea of ESG’s long-term — but unnamed — roots in CRE hints at a strange dichotomy. It seems that the ESG acronym has indeed put an umbrella over initiatives that have long been at the forefront of real estate. However, that same title is where corresponding efforts have run into trouble, eliciting widespread criticism that ESG is an overly broad concept that doesn’t necessarily equate to a sustainable future.
As mentioned previously, there is a whole camp of people who generally agree with ESG’s pro-climate, pro-diversity sentiment, but ultimately perceive ESG as a limiting approach to sustainability. This line of criticism recognizes ESG as a well-intended but flawed set of metrics that must continue to grow and acknowledge its weaknesses: namely, a lack of data, non-uniform disclosure frameworks and inconsistent benchmarks for accountability, among others. According to experts, ESG has thereby resulted in conflicting business goals and cries of greenwashing, not to mention an outpouring of media opinions.
In conjunction with this line of opposition, Tariq Fancy, who previously worked as BlackRock’s chief investment officer of sustainable investing, penned an essay last Oct. on what he perceived as ESG’s limitations. The essay, entitled “The Secret Diary of a Sustainable Investor,” called sustainability investing a dangerous placebo, and ESG a form of greenwashing the economic system. His essay garnered impassioned responses from outlets like CNBC, Forbes, The Wall Street Journal and The Financial Times, each offering a different take on the sentiment.
With so many competing voices, ESG’s political waters have surely been muddled. Yet, despite the noise, commercial real estate remains resoundingly calm on the ESG front. Many firms declined to comment on anything political, while others simply opted to let their ESG pledges speak for themselves. Across CRE websites, you’ll find strikingly similar reports — for example, developer Hines’ 2021 ESG report — that outline various sustainability and DEI commitments, placing ESG at the forefront of business strategy.
“We are seeing the strong, positive benefits of implementing these [sustainability] elements and that, to us, just leads to better real estate overall,” said Peter Epping, global head of ESG for Hines.
He noted that increased sustainability measures certainly correlate to ESG, but changes are also just hallmarks of long-term, more sustainable building quality. They reflect the responsibility real estate must bear as a main contributor to carbon emissions.
Perhaps herein lies the real reason for real estate’s seemingly clear-cut support of ESG. The industry is responsible for roughly 40 percent of global emissions and therefore must play a huge role in counteracting them — on a scale not quite faced by other industries. For many CRE firms, ESG is therefore a starting point to implement new, greener and more diverse practices.
“It’s unequivocal that real estate is a huge contributor to global emissions,” said Epping, “and the science on climate is very clear.”
To address the climate crisis, real estate must reconsider its construction, operational and general building practices. Changes may require a period of trial and error that could cost firms from a financial perspective, resulting in, yes, temporary investment setbacks.
“We have to try new technologies and processes,” said Epping, “and all of those things take time and significant resources of people and money… It’s not yet always clear over what time period that investment will pay off.”
Yet, while risky, change is part of the ESG learning curve, and despite the financial concerns, firms face a much larger threat should they shun ESG altogether. Because ESG is so intertwined with the nature of real estate, adopting corresponding policies is a strategic business move that may help companies remain profitable and continue to meet client needs.
“When we talk to a lot of our members, they’re not really concerned with whether something is woke or not,” said Burki. “A lot of it is what tenants want to see.”
CREFC recently published a survey overviewing its members’ feelings toward ESG. Climate and property resilience topped the list of major tenant priorities, which have been somewhat challenging to pinpoint ever since 2020; consistently evaluating tenant needs has been essential since the onset of the pandemic, which sparked uncertainty about office demand.
Now, as climate change threatens the future of both the natural environment and the built environment, tenants want to see resilient buildings. In addressing these wants, the conversation about ESG re-centers from a political vein to a market-driven perspective.
“This is something that is so key and important for the underlying assets that it’s not a political thing; it’s an investment analysis,” said Burki.
With a market-focused outlook, investors can truly understand ESG as an essential business strategy. First, and perhaps foremost, ESG makes sense for anyone in commercial real estate who wants to avoid legislative penalties. As rules such as New York’s Local Law 97 force owners and developers to think about the future, firms are increasingly eager to adopt greener metrics, reduce their carbon footprints, and so forth.
Yet, beyond the immediate gratification of investing in ESG, there are additional advantages that outweigh any political chatter. Investors ultimately want a property that will remain sustainable and attractive to tenants years down the road. As the climate changes, real estate must also change, not only to protect said climate but to protect assets and their inhabitants. Buildings must therefore prepare for severe weather: wildfires, floods and storms.
“You really want to know the risks that your assets are subject to and in real estate they’re subject to a lot of climate-driven risk,” said Burki. “I mean, it’s just that straightforward.”
To truly understand the risks, data is essential — a refrain that continues to hold up throughout CRE’s evolution. Before investors can make informed decisions about a property’s resilience, they need to see the facts and assess whether a property is worth investing in. Data can also candidly demonstrate a building’s carbon footprint, allowing investors to make informed decisions in conjunction with whatever green policies they’re looking to see.
Through this transparency, data can address the threat of greenwashing, Chandris noted. The dissemination of false information plagues the country at large, and greenwashing poses an equal danger, she said. ESG data can combat the potential for misinformation, and create a transparent and open dialogue elucidating the truth of a building’s climate efforts. With more data, ESG can address its limitations and counteract some of its negative feedback.
Still, although CRE generally recognizes ESG as a positive force in the industry, it’s not an absolute, said Megan Krest, a sustainability project manager at Cushman & Wakefield. Krest recently authored a post about why ESG matters in investing, while Cushman & Wakefield just released the brokerage’s 2021 ESG report.
ESG is not just something to be put on an annual report, however, Krest noted. Rather, it’s a framework that should be monitored and improved upon continually, especially as more data emerges. Just because a company checks all the right ESG boxes doesn’t mean it’s operating in the most sustainable and ethical manner.
“I think the bar is always changing,” said Krest. “But by addressing ESG-related items in the investment decision making process, for example, and embedding these principles into your overall operations, you’re formally addressing the need to be operating more in alignment with a changing world and environment.”
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