The ESG Climate Change Evolution of Commercial Real Estate Finance: Turning Over New (Green) Leaves

While the element of human suffering cannot be discounted, the negative impacts of climate change are a major economic issue. In the last 50 years, the U.S. has suffered a total of US$1.4 trillion dollars in losses due to weather and climate disasters. In 2021 alone, there were 20 separate weather and climate disasters in the U.S. with damages in excess of US$1 billion—just two US$1 billion disasters shy of repeating the record set the year before in 2020.

The commercial real estate industry is undergoing an exciting metamorphosis to confront the challenge of reversing climate change. Whether one holds the view that climate change is an existential threat to civilization and the number one peril to the global economy, or the opinion that climate change is either murky science and overblown doomsday speak or an inevitable result of the Earth’s natural cycles, one thing is certain: The primary players in the commercial real estate market—property owners, tenants, lenders and investors in both real estate assets and in commercial mortgage-backed securities—are now taking active steps to confront climate change by using various environmental, social and governance (“ESG”) strategies and tools as part of their everyday business.

Two clear objectives are being served by this shift in the industry:

• Economic gain, both in short-and long-term returns, and
• Avoiding penalties, sanctions and other costs by ensuring compliance with current or future government regulations.

The commercial real estate industry operates in a for-profit market, of course, meaning that profit is paramount. It is not purely out of charity or kindness to Mother Nature that companies are taking steps to address climate change. Nonetheless, this strategy will enable market participants to be good corporate citizens and meet their corporate sustainability targets, thereby contributing to the overarching goal of transitioning to a net-zero carbon emission economy. These changes all cost money—large sums of money—by all segments of the commercial real estate market. However, the costs being incurred today that are necessary to create a net-zero commercial real estate industry are far less than the costs that will be paid if no action is taken. And harkening back to the “first-mover” theory of college economics, the first companies to make this transition with both coherent and credible business plans, and who incur these additional costs now, stand to enjoy outsized economic gains in the future. For the purposes of this article, when we refer to costs, we mean only economic costs, and not public health costs, environmental justice costs, biodiversity costs and other non-economic costs of climate change (which are outside the scope of this article).

While the private efforts of the commercial real estate industry to transition to a net-zero carbon economy are promising, these efforts alone will be insufficient to reverse the course of climate change. For all the power and dynamism that capitalism has demonstrated over the course of American history, the private sector cannot achieve this noble goal on its own. Help is needed, and the primary additional catalyst required to combat climate change is proper government funding and incentives at federal, state and local levels.

Download the article to continue reading and learn more on the following topics:

• The Economic Costs of Climate Change 
• ESG in Commercial Real Estate Finance
• The Role of Regulation