Profit and the business case for sustainable commercial buildings

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This article outlines the business case value factors that are profit-driven and examines how they affect the various industry groups.

How can a sustainable commercial building contribute to my company's profit?

When preparing a business case for sustainable commercial buildings, it is important to identify and communicate where there are opportunities for increasing bottom line profit, and also to identify areas where profit may be reduced. The commercial property and construction industry has begun to warm up to the sustainable building agenda, 'not necessarily because its members have miraculously developed an insatiable urge to save the planet, but because they have begun to see a viable new investment opportunity' (Building Design+Construction, 2006, p.5).

A mindset of cutting up-front costs has long been established as standard practice when developing, designing, constructing, managing and occupying commercial buildings. However, sustainable commercial buildings require a different kind of budget approach — one that takes into account life cycle costs — as the majority of potential savings will likely result after the initial construction. Less then 10% of the total life cycle cost of a building lies in construction, while 60% to 85% lies in the ongoing expenses, including such things as continuous maintenance, and energy and repair costs. However, while the majority of cost savings accumulate over the life of the building, shorter-term financial gains are also achievable by the developer or builder by using a least first cost approach.

Allocation of cost saving benefits is an important business case consideration; one of the barriers to sustainability uptake continues to be the disassociation of benefits and costs. The developer and owner pay the capital cost of sustainability features (passive or active) — costs which may not flow through to increased rental levels — while many of the operational savings accrue to tenants by way of reduced occupancy costs.

Cost savings are capped at 10 or 20 times their value, but repay the owner from three to five times their value (e.g. an investment of $1 million can generate savings of $250,000 p.a. However, if the $250,000 additional income is capped at say 6%, then it adds almost $4.2 million to the capital value of the building. So an investment of $1 million in energy efficiency that produces savings of $250,000 adds over $3 million to the value of a building after repaying the investment).

This article outlines the business case value factors that are profit-driven and examines how they affect the various industry groups. The table below, which is based on the matrix developed by the ASBEC Building Case Sub-committee, summarises profit-motivated business case factors and indicates the industry groups that are impacted on by each of them.

Reduced commissioning, operating and maintenance costs

• Major factors leading to increased profitability
• Indicative savings
• Energy savings
• Reduced mechanical systems costs
• Water savings
• Waste reduction and disposal savings
• Whose business case benefits?
• Who has the most impact?

Major factors leading to increased profitability

Commissioning, operating and maintenance costs may occur across a number of building systems. They will become more important as companies are increasingly forced to internalise costs of energy and water use, waste disposal and carbon emissions.
Typical areas of cost savings include:

• reduced energy consumption through a change of energy source, and through increased efficiency and effectiveness, particularly of mechanical and lighting systems
• reduced capital costs of mechanical systems, as control systems, building envelope and building tune-ups reduce the need for over-sizing
• water savings, through more efficient fixtures and fittings and recycling
• waste reduction and resulting disposal savings.

Indicative savings

Sustainable commercial buildings are designed to use fewer resources in order to operate them, thus providing savings on building outgoings. Investments in operational efficiencies can have shorter payback periods (less than three years) and will continue to deliver value throughout the entire life of the building. In Australia, data shows that energy efficiency investments can produce internal rates of return of over 39% and payback periods of one to two years (Victorian Government, 2002).

Investment in energy efficiency needs to look beyond simply picking the low hanging fruit (for example, 5% savings) to avoid inhibiting more ambitious savings later, and should instead be used to contribute to higher order savings (30% to 50% savings). In their experience, Szencorp has found that, in terms of sustainable buildings, energy and maintenance savings of 30% to 50% can be achieved within five year payback periods, while 50% to 70% savings can be achieved within seven year paybacks (i.e. with a positive Net Present Value).

Energy savings

Energy efficiency projects, even those with a modest return, should be a low-risk investment, because the return on investment is relatively certain and potential savings can be calculated with relative accuracy (Kaplan & Norton, 1996). However, one of the barriers to improving energy efficiency is still the perceived risk.

Buildings are now routinely achieving energy savings in the range of at least 20% to 30%, compared to industry standards (Building Design+Construction, 2006). Melbourne City Council's CH2 building, for example, is predicted to reduce energy consumption for cooling by 83%, compared to the strictest energy benchmark, and 18% compared to the toughest benchmark for lighting (Cheung, 2006). Likewise, after the first two months of monitoring the performance of its refurbished building at 40 Albert Road, Szencorp has reported a 61% reduction in electricity use, although this higher than average saving is partly attributed to lower than design building occupancy (Szencorp, 2006). Monitored results of post occupancy commissioning and optimisation have seen this increase to over 80% energy savings after 12 months of operation (Szencorp 2007). Similarly, capital efficiency is Investa's most compelling justification for the pursuit of energy savings, as many of their efficiency improvements have been achieved through management control and capital investments with payback periods of less than three years (Investa, 2006) (see snapshot case study on Investa's return on energy investments).

Reduced mechanical systems costs

Optimising building environmental systems, utilising sustainable technologies, and designing buildings to take advantage of a site's natural features (such as daylight, shading and landscape) can lead to substantial savings in capital costs, as equipment sizes can be significantly reduced (Hydes & Creech, 2000) (see also the left figure). Using passive solar heating/cooling, natural ventilation, and a thermally efficient envelope can reduce perimeter heating and the size of the HVAC, while maximising the penetration of daylight to interior spaces can reduce the need for artificial lighting (RICS, 2005). Investment in energy management systems, along with monitoring and controls to continuously calibrate, adjust and maintain energy-related systems, are important to ensure that operational cost savings continue to accrue.

Reduced mechanical plant capacity may also reduce the floor space required for plant rooms. The design of the QUAD 4 building in Sydney included chilled beams, which resulted in a reduction in the size of the plant room required on each floor. This allowed an increase in net lettable area on each floor of 50 m², compared to the previous building in the development, QUAD 3.

Water savings

The introduction of water-saving fittings (e.g. taps, urinals and toilets) and equipment (e.g. dishwashers, cooling towers and air-conditioning systems) in new buildings can significantly reduce demand for water at little cost. For example, waterless urinals have proven to have a negative incremental first cost, and they will continue to deliver cost savings throughout their operation (US Department of Energy Efficiency and Renewable Energy, 2003). An indication of the level of savings has been provided by The GPT Group: based on the results of a water audit, GPT identified tenancies with unusually high water consumption and instituted a rectification program that has reduced water use by 54,000 litres per day. The estimated saving in operational costs from an investment of $11,500 is expected to be $45,000 annually (The GPT Group, 2006). However, it should be noted that these figures are specific to this case study example, and the returns are higher than what could be expected on average.

40 Albert Road is the first 5-star NABERS Water certified building, and uses only 10% of the water of an average office building (i.e. 90% less water than the average building).

Waste reduction and disposal savings

By implementing a waste reduction program, through the re-tendering of all its waste management services in November 2005 under a 'highly innovative diversion-focused contract', Investa achieved significant improvements in their waste reduction goals, diverting 57.4% of waste to recycling. In Sydney, where landfill charges are noted to be highest relative to recycling, this strategy resulted in a saving of approximately $1,000 per month (Investa, 2006).

Whose business case benefits?

Owners, occupiers and managers are most likely to benefit financially from operational efficiencies, because savings will accrue over the life of the building. The distribution of the financial benefit between owners, occupiers and managers will depend on the leasing arrangements (i.e. whether outgoings are included in or excluded from lease premiums). Developers also have the potential to benefit from operational efficiencies by increasing their return on investment for a property through the implementation of sustainable design features, such as chilled beams, which may allow reduced riser and plant room areas and floor-to-floor heights, therefore maximising the net lettable area achievable within the overall building envelope.

Who has the most impact?

Designers are crucial to ensuring that building designs and specifications maximise operational efficiencies and reduce resource use. Managers play a vital role in ensuring that a building is operating at its optimum level by monitoring its performance and correcting operational inefficiencies (see snapshot case study on 'The Pringle Initiative' below). Occupier fit-outs can have an impact on the efficiency of the overall building, and managers and owners therefore need to work closely with their tenants to engage them in delivering sustainable fit-outs (for more information about sustainable fit-outs, see Investa green lease guide or Commonwealth green lease guide). Leasing arrangements, such as green leases, may assist all parties involved.

Reduced development costs

• Major factors leading to increased profitability
• Whose business case benefits?

Major factors leading to increased profitability

Development costs are the hard and soft costs associated with the site acquisition, financing, planning, construction and refurbishment of commercial buildings. Hard costs generally include all construction-related activities and other activities critical to the development of a commercial building, such as land costs, servicing costs, and development charges. Soft costs refer to the fees of the various consultants that are necessary to get the work done properly. 

It is claimed that sustainable commercial buildings can lead to costs savings through lower carrying costs due to accelerated planning approval processes and a compressed schedule.  While this may indeed be true, more case studies to document the bottom-line cost savings achieved from reduced development costs need to be undertaken to strengthen this business case factor.

Commercial construction projects require a significant amount of initial investment, and typical projects are financed with a large amount of debt leverage. A period of negative cash flow results from the payments required to service the debt during the development and construction of the building. Profitability is increased by keeping up-front commitment of cash to a minimum and reducing the time until the investment starts generating a positive cash flow sufficient to service the debt.

Reduced carrying costs may be achievable in the development of sustainable commercial buildings, although there is currently little documented evidence to support this. Sustainable buildings are said to have greater public support, which may result in a faster planning approval process, thereby reducing the carrying costs of development.

Furthermore, sustainable buildings can result in a compressed project schedule, in part attributed to the integrated design process often adopted; this may also contribute to reduced carrying costs (GBCA, 2006). An integrated design process can lead to time savings resulting from improved communications, faster exchange of information, and increased innovation due to a more fruitful environment for the generation of ideas. However, the design of sustainable commercial buildings may also lead to a longer design period, and to slightly elevated design costs, due to the more complex — and perhaps new — systems and technologies involved and the research, development and testing processes that may be necessary. Additionally, owners and developers may be granted other incentives for sustainable buildings, such as car parking exemptions and height and density variances, which may reduce the time frames required for appeals processes, therefore keeping the project schedule on track.

Whose business case benefits?

Developers are most likely to receive direct financial gain from reduced development costs. According to Bordass (2000, p.343), developers 'will always be interested in saving money', however 'capital cost is not the biggest thing. What counts is return on investment, which means maximising lettable area and rental value; and minimising time to completion and occupancy'. Owners and occupiers may receive flow-on cost savings from reduced carrying costs.

Green premium (higher return on asset)

• Major factors leading to increased profitability
• Whose business case benefits?

Major factors leading to increased profitability

Sustainable commercial properties are often associated with higher quality spaces and lower operating expenses, and this is often linked to a sustainable commercial property's ability to attract tenants and command a premium, or above-market, rental. However, it is often hard to separate all the influencing factors in a tenant's decision to lease a particular space; accordingly, it may not be possible to attribute any rental premium to the sustainable features, the location, other building amenities, or a combination of factors.

One difficulty is that valuers have been slow to reflect the advantages of sustainability in their valuations of commercial buildings, with the result that sustainable commercial buildings are little differentiated in value from less efficient and effective buildings (for more information on this issue, see Valuation of sustainable commercial buildings). As well, occupiers who have paid a 'green premium' for sustainable commercial space may not be willing to advertise they have done so, or the building owner may not be willing to publish how much this premium was. The Szencorp Building at 40 Albert Road in Melbourne provides a useful example of a green premium, according to owner, Peter Szental. While it is not an A-grade building according to the Property Council quality matrix, it is commanding A-grade rents, which is directly attributable to its sustainable design.

What is evident, however, is the increasing propensity of those seeking to rent space, whether government or commercial tenants, to nominate sustainability performance levels in their space specifications. It is clear that a commercial building that is not sustainable is likely to be less attractive to tenants and therefore less profitable for its developer.

Whose business case benefits?

The benefits of any above-market rental should accrue to owners. Ultimately at this point, it comes down to the values and benefits that prospective tenants are seeking to gain from a particular building. So while this benefit of sustainable commercial buildings is yet to be fully valued or well documented, many owners, investors and sustainable building advocates still anticipate that these buildings will attract occupiers who will be willing to pay a higher rent for sustainable outcomes, and that return on investment will increase for sustainable commercial buildings.

Tenancy benefits

• Major factors leading to increased profitability
• Reduced vacancy rates
• Higher NOI for gross leases
• Whose business case benefits?

Major factors leading to increased profitability

Costs are incurred by developers and building owners during the leasing and operational phases of a building's life cycle; these costs accrue as foregone rental, due to initial leasing and between tenancy periods, and as building operation costs (such as water and energy that are included in gross leases.

Typical areas of increased profit are realised through:

• reduced vacancy rates
• higher net operating income (NOI) for gross leases.

Reduced vacancy rates

Sustainable commercial buildings are claimed to have a competitive advantage over traditional commercial buildings because of their ability to attract tenants due to a perceived added value to occupiers, such as better indoor environment quality, which leads to better productivity. Occupiers may also be seeking to reduce their risk by improving their reputation and brand image. Once such trends are set in the marketplace, sustainable commercial buildings will continue to be more attractive to potential tenants and will be able to attract higher profile tenants.

Currently, however, little documented data exists on the bottom-line financial benefits of reduced vacancy rates or on the priority that tenants attribute to sustainability against other factors (including location, vacancy rates and other building amenities) when making leasing decisions.

Higher NOI for gross leases

Under a gross lease, rent includes the tenant's share of the building's operating expenses, such as water and energy usage. In these circumstances, tenants have little incentive to reduce their consumption of energy and water, as the costs are fixed. Owners, however, should be motivated by the increased profits to be gained in gross lease situations from reduced operating costs.

Whose business case benefits?

Owners are most likely to receive direct financial gain from tenancy benefits. Tenants benefit from lower lighting costs, while the owner will benefit from HVAC savings etc.

Financial incentives

• Major factors leading to increased profitability
• Incentive programs
• Whose business case benefits?

Major factors leading to increased profitability

Financial incentive programs (including government funding and infrastructure funding programs) are available to assist in the development of sustainable commercial buildings and to upgrade existing building stock. In other countries, accelerated depreciation allowances have been created to assist as well. Funds may also be available to help defray additional up-front capital costs of sustainable technologies and design features, with the aim of stimulating investment in these areas.

International regulatory trends and economic instruments are moving towards financial incentives to promote and increase the uptake of sustainable commercial buildings and/or to discourage the construction of non-sustainable buildings. Some of these financial incentives include:

• lower taxation
• favourable banking products and advantageous lending rates
• favourable insurance products and advantageous insurance rates
• reimbursement, rebates and investment aid offered by water or energy utilities, equipment suppliers, etc.
• specialised funds for sustainable construction
• heavier fiscal burdens on non-sustainable construction
• grants and subsidies for sustainable construction
• density bonus and/or accelerated building permit processing for sustainable construction
• carbon dioxide (CO₂) certificate trading.

Incentive programs

There are a number of incentive programs available in Australia, some of which are highlighted below. In Victoria, the Commercial Office Building Energy Innovation Initiative (COBEII) exists to assist developers, property owners and occupiers to demonstrate innovation in the design and application of sustainable energy in the following four project categories:

1. Major refurbishment
2. Tenancy fit-outs
3. Building services upgrades
4. New buildings

In Queensland, Brisbane City Council, as part of its environmental sustainability strategy, has recently launched its Sustainable Development Grants (Office) Program, which provides a grant to applicants who meet a set of prescribed sustainability requirements. Applicants can be the developer, building owner or building lessee, and the grant is a lump sum payment. The grants program rewards building projects that obtain a 60 point sustainable design score (SDS), which requires achieving a 4-star or higher Green Star 'as-built' rating.

The Queensland Sustainable Energy Innovation Fund (QSEIF), which is administered by the Sustainable Industries Division of the EPA, provides funding support to Queensland-based organisations for the development and commercialisation of innovative technologies that reduce consumption of fossil fuels or water, or reduce greenhouse gas emissions. The funding is intended to offset the technical risks associated with developing, adapting or proving the new technologies or processes.

The Victorian DPI has developed the Victorian Energy Efficiency Target (VEET) scheme to assist in reducing carbon emissions. The scheme is expected to be implemented in 2008/2009 for households, and may also be extended to small and medium businesses. The scheme involves the issuing of energy reduction certificates, to be collated by energy providers, for households that meet targets set by the program. The certificates would be issued to households when they undertake an approved abatement activity (e.g. purchasing a solar hot water system). Reduced energy costs and incentives by the energy retailer would encourage household participation. The system is designed to operate in support of a carbon trading scheme.

An energy efficiency certificates trading scheme is in place in NSW under the NSW Greenhouse Gas Abatement Scheme. This involves eligible parties purchasing and surrendering tradeable certificates, called the NSW Greenhouse Abatement Certificates (NGACs). The objectives of the scheme are to reduce greenhouse gas emissions from energy production and to encourage activities to offset greenhouse gas production.

The City of Melbourne's Building Improvement Partnership Program was initiated to assist commercial building owners to improve the energy and water usage of their buildings. Participants receive a building performance assessment to establish the means by which base buildings can be improved; this is fully funded by the program. Technical assistance is then provided to assist implementation, and reassessment is done to prove the success of building changes. Competitive performance-based financing options for building works are also available through the program.

Other key funding and incentive programs include:

• Solar Cities Program
• Sustainable Melbourne Fund
• Renewable Energy Equity Fund
• Renewable Energy Support Fund
• Business Energy Innovation Initiative
• Grow Me the Money

Whose business case benefits?

Developers, owners, managers and occupiers are typically the stakeholders who are eligible to apply for funding programs and whose financial bottom line would benefit through such areas as reduced capital investment requirements, operational savings and reduced development costs.  In many cases, the funds gained from incentive programs are used to defray any additional up-front capital costs of sustainable initiatives, which can help to overcome the barrier of disassociation of costs and benefits.

Avoided infrastructure investment

• Major factors leading to increased profitability
• Whose business case benefits?

Major factors leading to increased profitability

By constructing an efficiently operating building, owners may obviate or reduce the need for infrastructure investment in, for example, a new electrical substation or increased sewer capacity. Unfortunately, governments and power and water utilities have been slow to recognise the benefits of potential cost savings to public infrastructure, reduced demand on peak energy loads, savings in the life cycle costs of water capture, treatment and distribution, and the capture, treatment and disposal of water-borne waste. Additionally, there are benefits for embedded generation, such as energy security. While market barriers (such as power utilities' profits being linked to sales of energy and investment in infrastructure) and a lack of data are currently impeding this benefit, new economic models are being developed, including those by the Institute for Sustainable Futures at the University of Technology Sydney, that identify the savings to providers of public utilities and so enable developers to put their case for cost relief.

According to Peter Szental, President of the Business Council for Sustainable Energy, standing bids and feed in tariffs are ways of addressing avoided transmissions investment costs. Avoided carbon emissions are set to attract a price signal by 2010 as Australian state governments have committed to introduce emissions trading by 2010.

Other sustainable design activities that can lead to infrastructure costs savings include:

• siting buildings near public transportation and including other features, encouraging public and bicycle transportation rather than use of personal vehicles. This can reduce regional road and highway infrastructure requirements
• redeveloping brownfield sites or locating new buildings in downtown areas rather than on suburban or rural greenfield sites. This reduces the associated development costs for new transmission/distribution, sewers, roads, and other infrastructure systems
• using recycled materials and construction waste management, which reduces demand for landfill capacity and therefore lowers landfill construction costs
• reducing water use through efficiency or recycling, which lowers the need for new wastewater/sewage treatment plants (US Department of Energy Efficiency and Renewable Energy, 2003, p.34).

Whose business case benefits?

Public utilities are most likely to receive direct financial gain from avoiding infrastructure investment. Owners and developers may benefit if they can quantify the savings to the utilities and negotiate a reduction in costs.

Access to capital

• Major factors leading to increased profitability
• Whose business case benefits?

Major factors leading to increased profitability

A company's approach to sustainability can be a diagnostic tool for improved business understanding and performance. The holistic and relational nature of sustainability provides valuable insights into the dynamics of the external business environment and focuses attention on specific risks and opportunities (Hart & Milstein, 1999; Mays, 2003). Consequently, investors — particularly in socially responsible investment (SRI) funds — and managers are now evaluating the sustainability performance of companies to make an informed assessment of their future value. Evidence of sustainability behaviours and performance — of which sustainable commercial buildings are an overt demonstration — has become increasingly useful in attracting long-term and lower cost capital (Mays, 2003, Hart & Milstein, 1999); and this is increasingly relevant to the property industry (see snapshot case study on Principles for Responsible Investment below). For more information about socially responsible investment, see An investor perspective on sustainability and commercial buildings. Opportunities to access additional capital can also be achieved through energy performance contracting, which bundles capital and outcomes via performance guarantees.

Whose business case benefits?

Owners and developers are most likely to benefit from improved access to capital for sustainable commercial building development.

Improved indoor environment quality

• Lower churn
• Increased ability to attract and retain employees
• Improved occupant productivity
• Lower turnover and tenant inducements
• Whose business case benefits?
• Who has the most impact?

Indoor environment quality (IEQ) is an area of great interest to researchers and the industry more generally. While empirical evidence is difficult to locate, there is an expectation that improved indoor environment quality contributes to improved productivity and reduced employee and tenant turnover, due to healthier and more attractive working conditions. This may result in lower costs for owners and occupiers.

Typical areas of cost savings include:

• lower churn
• increased ability to attract and retain employees
• improved occupant productivity
• reduced absenteeism
• reduced turnover and tenant inducements.

This topic is covered in more detail in the Indoor environment, productivity and sustainable commercial buildings article.

Lower churn

The costs of churn are often neglected when the life cycle costs of a building are estimated. A survey published in 1997 (IFMA, 1997) determined that, on average, 44% of building occupants move within a given year, and that churn rates have been increasing over time. Data collected on churn costs in an actual government office building with 1,500 workstations (the Rachel Carson State Office Building in Harrisburg, Pennsylvania) indicated that a high-performance sustainable building could save over $800,000 annually, based on a large building with a 25% annual churn rate. This equates to a saving of $2,250 per person moved (Loftness et al., 2002).

To reduce churn costs, many sustainable buildings include features such as raised floor systems and movable partitions in place of suspended ceilings and permanent walls. Underfloor HVAC systems, reduced ductwork, modular power cabling and telecommunications/data systems, and movable partitions reduce the need for complex construction during alterations, which reduces churn costs and allows spaces to be modified quickly. Some of these design features may also have flow-on sustainability and cost benefits by reducing the waste and the time and disruption to business that can be associated with less flexible and adaptable systems.

Increased ability to attract and retain employees

The costs associated with staff turnover are estimated to be 50% of salary (for mid-level managers), and therefore there is a bottom-line benefit for businesses to invest in and retain their staff (CABE & BCO, 2005, p.11). When employees leave, they also take with them firm-specific tacit knowledge that is not easily valued or quantified. However, as with a number of other savings to an organisation's operating costs, it may not be possible to identify a cause and effect relationship between reduced staff turnover and occupancy of a sustainable commercial building.

Improved occupant productivity

Employee salaries and benefits represent the largest proportion of business costs (see Figure 1); and improvements in employee productivity are claimed to produce cost savings for occupants that will surpass savings in their operating costs. For example, it is claimed that an increase of just 1% in employee productivity can nearly offset a company's entire annual energy bill.  Accordingly, a large proportion of the research related to the profit-driven business case centres on the paybacks of improved employee productivity and reduced illness and absenteeism.

An independent post-occupancy evaluation was undertaken at Szencorp's building at 40 Albert Road, Melbourne to measure staff perceptions and responses to the sustainable building's work environment, as well as to benchmark against 45 other Australian buildings. The key findings indicated a perceived productivity improvement of 13%, while personal comfort, overall design, perceived productivity, and health were all rated above the average of the benchmarked buildings (Szencorp, 2006). For more information on Szencorp's building, see http://www.ourgreenoffice.com/.

Lower turnover and tenant inducements

Tenant inducements may be monetary or non-monetary; the most common inducements are a contribution by the building owner to the whole or a part of the tenancy fit-out costs and a discounted or rent-free period at the beginning of the lease.

Tenancies that are designed to reduce churn, simplify refit, support an occupier's ability to attract and retain employees, and to improve productivity can all have an impact on turnover and tenant inducements. Occupiers who are content with their space tend to remain in it, unless their space requirements change. Reducing tenant turnover therefore reduces the number and cost of tenant inducements paid by owners. Lower turnover may also reduce leasing and building upgrade costs between leases.

Whose business case benefits?

Occupiers are said to be the primary beneficiaries of improved environment quality in sustainable commercial buildings. While owners and developers will benefit from lower leasing costs, recouping additional capital costs may be a less straightforward task, requiring a longer term business perspective. However, owners and developers may benefit indirectly from the value that is created from factors that increase profit for their customers.

Who has the most impact?

To maximise the capital cost savings associated with sustainable design features that improve building efficiency and indoor environment quality, it is essential that they are integrated into the initial design stages and not simply 'added on' to a standard building design. The benefits of, and steps to develop, an integrated design process are outlined in the Design and sustainable commercial buildings article.

Increased building valuation

The profitability of a commercial building is inextricably linked to the price that can be achieved when a building is sold. The price achieved at sale must cover the costs of building construction or acquisition, along with financing and other costs. Therefore, any increases in building valuation resulting from the inclusion of sustainability features can potentially increase the profitability of the project.

Higher building valuations can also increase profitability, even when a sale transaction is not undertaken, by increasing the owner's access to capital. This secondary benefit increases profitability by giving the building owner access to more capital, which can be reinvested, or by reducing the perceived lending risks of the owner to their creditors, resulting in reduced borrowing costs.

Commercial property valuation has been put forward as a key mechanism to align environmental and social issues with the economic return on buildings (Lutzkendorf & Lorenz, 2005, p.215). Traditionally, key indicators when assessing the value of any building include the rental potential of the property, the ability of the property to keep its existing tenants and attract new tenants, the capital required to be spent on the property in the short to medium term, and the rental contracts currently in place. Reed and Wilkinson (2006) outline that conventional valuation analysis is centred on three primary forms of obsolescence (physical, functional and economic), but argue that a fourth primary type has been added — sustainable obsolescence: 'thus a building can have increased obsolescence (causing a loss in value or depreciation) if it fails to meet the market expectations of incorporating a level of sustainability' (Reed & Wilkinson, 2006. p.11).

Regardless of this, valuers have been slow to recognise sustainability as a contributing factor to building value. Sayce et al. (2004) have identified a number of ways in which sustainability may lead to higher valuations (see Table 2).

Sustainability criteria linked to building value/worth

Sustainability criteria	Conduit
Building adaptability	Risk premium, cash flow, rental growth, depreciation
Accessibility	Rental growth, depreciation
Building quality	Cash flow, rental growth, depreciation
Energy efficiency	Risk premium, cash flow, rental growth, depreciation
Pollutants	Risk premium, cash flow, rental growth, depreciation
Contextual fit	Rental growth
Waste and water	Cash flow, rental growth, depreciation
Occupier satisfaction	Risk premium
Occupier impact	Risk premium

Source: Sayce, Ellison & Smith, 2004

In Australia, the commercial refurbishment project at 40 Albert Road provides a useful case study example of increased building valuation. The site was an 'average' 20 year old block in Melbourne, which was renovated and has since set a benchmark for sustainable buildings in Australia. According to a 2006 report on the building's first year of performance, a 100% increase in asset value underlined the economic returns of the sustainable upgrade (Szencorp, 2006).

For more information about the valuation of sustainable commercial buildings, see the Valuation of sustainable commercial buildings article.

Whose business case benefits?

Owners and developers are most likely to receive direct financial gain from increased building valuations.

References

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