Carbon tax and leased properties
The carbon tax debate is in full swing, writes RODNEY TIMM, and businesses that lease commercial premises are unlikely to be immune from the impacts of this proposed tax.
Political one-liners rule the airwaves, and all parts of Australian society are trying to work out the likely impact of a carbon tax on their lives.
But will this lead to behavioural changes by tenants of commercial properties and their staff – a key focus of the tax? And will the financial implications make businesses more aware of the fragility of our planet? Australia has been both blessed and doomed by cheap coal-based energy, with pricing that ignores the externalities and negative impacts on the environment. The carbon tax is the first step in recognising the true costs of the energy we consume. But what are the actual implications for tenants in the short- to medium-term? How will corporate portfolio strategy decisions change? And how will the profile of the commercial property market and built environment change?
FUTURE ENERGY USAGE
Environmentally aware tenants have already started their change journey. Many facilities managers are some way into driving their organisations along the energy efficiency journey. There are many examples of recently completed accommodation fitouts that are achieving new levels of energy efficiency with low-energy light fittings, office and area switching, movement sensor switching, low-energy computers and appliances etc. No doubt, the more ‘energy focused’ facilities managers will have been benchmarking their energy use and targeting the premises for formal NABERS ratings.
Over the last several years, the more forward thinking facilities managers will have ensured that all new leased premises are located in base buildings designed to achieve energy efficiency target ratings. Designs will incorporate appropriate building orientation, sun shading, alternative energy sources, efficient air-conditioning and other such similar features. Green lease structures will be in place to ensure that landlord and tenant relationships are committed to environmentally friendly outcomes. It is expected that the ever-increasing energy costs and carbon tax will drive this change in behaviour into the future across the industry – ultimately energy awareness and conservation will be the new ‘norm’ imprinted on business operations and the use of premises.
With the introduction of the carbon tax, legacy and existing lease structures will determine whether landlords or tenants will ultimately carry the additional energy costs of the carbon tax. Even if tenants are focused on implementing strategies to reduce their energy consumption and costs, they have little control over the common areas and central services in the building. The lease structures and how operating costs are recovered via the lease terms will determine the winners and the losers. Net rent lease structures and even gross rent leases with an outgoing recovery clause will mean that additional energy costs will pass through to the tenant. On the other hand, true gross rent leases with no outgoing recovery clauses or with increases capped will probably result in the landlord having to absorb the additional costs. This is likely to result in a growing momentum from landlords insisting on net rent lease structures or full outgoing recovery clauses. Even though astute tenants may attempt to resist this approach, ultimately the outcome will depend on the negotiating leverage of the parties at the time the leasing deal is concluded.
Assuming property markets are efficient over the medium- and long-term, existing building stock will be repriced based on its energy efficiency ratings and costs. It is reasonable to believe that most prospective tenants will do their homework in reviewing lease options based on their total cost of occupancy. These costs will include net rentals and outgoings, including energy costs. Assuming other outgoings being equal, the higher the energy cost, the lower the net rental that the landlord will ultimately receive. Some landlords may believe that they can pass these additional base building energy costs on to their tenants, but as these costs increase and tenants become more environmentally aware, this is unlikely to prevail. Already, legislated mandatory energy performance disclosure requirements are raising awareness in the market. It is likely that rental differentials between energy-efficient buildings and others will grow wider. This will affect underlying property asset risk ratings, pushing out capitalisation rates and ultimately pushing down property values.
The growing differential in property rentals and values is already evident in the Canberra market. With the predominant portion of this market being driven by government tenancies that are required to comply with legislated minimum energy benchmarks, the vacancy rate in non-compliant buildings has blown out to be the highest level for many years. There is an ever-increasing stock of second-rate buildings that cannot economically be retrofitted to meet the required energy efficiency benchmarks. This stock is now largely un-tenantable, has significantly lost value and will most likely be redeveloped for alternative uses or demolished.
WHAT SHOULD TENANTS DO?
Tenants with legacy leases in which additional energy costs are likely to be recovered by landlords can expect their overall rental costs to increase marginally, probably less than 0.5 percent annually. Budgets will need to be adjusted. But with appropriate behavioural changes by all staff, this can in all likelihood be offset by reducing their own direct energy costs through simple measures like switching off lights and appliances when not required. But, as a more long-term strategy, facilities managers need to ensure that new lease locations are in properties featuring base buildings with appropriate energy performance ratings that will isolate them against ever-increasing energy costs. More importantly, it is wise to supplement this strategy by insisting that all future accommodation fitouts be designed to minimise energy use and change staff behaviours.
Probably the most effective way of reducing energy costs is to minimise the footprint of accommodation portfolios. Alternative workplace practices, including shared desks and non-territorial layouts, will, if carefully planned, implemented and managed, ensure that workstation utilisation will be increased and accommodation requirements reduced. It is not difficult to understand that with smaller accommodation footprints, energy costs will be reduced. In addition, there will be the added advantage of reducing the other components of recurrent rental bills. Energy saving mechanisms need to be designed into the accommodation, with sensor lighting, individual switching and the like needed for true effectiveness. Likewise, the behaviour of individuals needs to change as well.
In Europe, the tracking of carbon footprints per FTE (full-time equivalent employee) has started. The technology exists, and in certain companies the implementation has commenced. With these tracking systems, companies can track energy use based on the behaviour of individual staff members. FTE carbon footprint targets can be tracked based on the pro rata allocation of energy used in workspace and meeting room bookings, personnel waste and recycling, commuting patterns to work, as well as corporate flights – all of which can be tracked automatically for benchmarking against targets and, ultimately, as part of the criteria directly affecting individual performance bonuses.
Carbon footprints and related costs may have other indirect effects on the need for (and use of) leased accommodation. This will need to be planned into future accommodation projects. For example, corporate air travel may be discouraged, replaced by the emerging sophistication of video-conferencing, other than for those truly essential face-to-face meetings. This may affect the need for meeting rooms and video-conferencing facilities, possibly even marginally increasing accommodation footprints.
With the carbon tax, property industry participants are likely to become more energy and NABERS rating conscious. Tenants will focus on the energy performance of buildings. And the impacts on net rentals and property values of less energy efficient buildings are likely to be the commercial catalysts for landlords to change behaviour and invest in making their buildings more energy efficient.
Rodney Timm is the director of Property Beyond.