Sustainability in real estate—essential update

By Kristy Dorney 

Sustainability is not a new concept in the Australian real estate sector. However, mandating and legislating meaningful change has been a slow burn by the Australian Government. This may be set to change as the government begins to implement initiatives to support its June 2022 commitment to reduce emissions by 43 percent by 2030 and to achieve net zero by 2050.

In this article, we provide an overview of some key sustainability initiatives under review.

Embodied carbon-new rating tool

In the drive to reduce greenhouse gas emissions, the focus for measuring emissions in the Australian real estate industry has largely been on measuring and rating the operational carbon and energy emissions of buildings. Emission rating tools such as NABERS-the National Australian Built Environment Rating System-and the Green Building Council of Australia (GBCA) Green Star rating system have been developed largely for this purpose and the current mandatory reporting and emission reduction programs in place focus for the most part on operational performance.

However, a report released by the GBCA in August 2001 highlights the significance of carbon and energy emissions embodied within a building, separate from its operational output. Embodied carbon emissions refers to the emissions generated during the manufacture, construction, maintenance, and demolition of buildings as opposed to the operation of the building.

The report notes that whilst operational carbon emissions make up the bulk of a building’s overall carbon emissions, without intervention embodied carbon emissions are set to significantly surpass operational carbon emissions. Embodied carbon emissions have been described as the ‘hidden emissions’ which will ultimately become the most important metric for emissions reduction and decarbonising of our built environment on the path to net zero.

In response to the GBCA report, last year NABERS worked in partnership with the GBCA to begin development of a standard for rating embodied emissions which NABERS would administer. A consultation paper was released for public feedback with submissions closing 16 February 2023.

The new rating tool, tentatively called the NABERS Embodied Emissions tool, is proposed to measure, verify, and compare embodied emissions in new buildings and major refurbishments. Among other things, it seeks to encourage a measurable focus on sustainable refurbishment practices, such as the re-use of existing building elements and materials as much as possible. A building refurbished using these sustainable alternatives will achieve a higher NABERS rating.

Whilst no time frame is set for completion of development of the new tool, the focus on embodied carbon is moving at pace and we would not be surprised to see release of the new tool within the year.

Climate-related financial disclosure-new mandates proposed

The Australian Government is moving towards the introduction of mandatory climate-related financial reporting obligations. A consultation paper outlining a proposed reporting plan was released in December 2022 with public consultation on the paper closing on 17 February 2023.

ASIC has long expressed a view that the current financial reporting obligations imposed on Australian corporations and Australian Financial Services Licensees requires disclosure of climate-related financial risks as well, and recommends adopting the 11-point disclosure framework published by the international Task Force on Climate-related Financial Disclosures (TCFD).

Whilst there has been significant voluntary take up by listed entities of the TCFD disclosure framework, the voluntary nature means there is inherent inconsistency in the approach.

Internationally, a new International Sustainability Standards Board (ISSB) has been established with a mission to develop a set of high-quality sustainability disclosure standards as a global baseline to meet investors’ information needs. The consultation for those standards is well on its way and an update on the current status and expected timing of release of the draft standards can be reviewed here.

The Australian Government is proposing a climate-related disclosure regime in line with the internationally developed framework. Once the review and a framework are finalised, the roll out is expected to commence with large listed businesses and financial institutions, with a view to moving to include smaller listed entities over time. The review also sought public comment on whether equivalent reporting requirements should apply to large entities that are neither listed nor considered financial institutions.

The introduction of mandated climate-related financial disclosures appears inevitable. However, the scope and reach of the ultimate mandates once fully implemented will not be known until the government produces its next report detailing the submissions put forward and the government’s ultimate findings and decision. For those entities continuing to voluntarily disclose, the updated reporting plan will be the recommended benchmark on reporting.

Greenwashing

‘Greenwashing’ refers to the practice of overstating or misrepresenting the extent to which a business’ activities, product, or investment opportunity is environmentally friendly.

In the financial sector, ASIC has announced an intention to target prosecutions for greenwashing and other misleading conduct in connection with environmental or sustainable initiatives in 2023. True to this statement, we have already seen a run of infringement notices issued, fines rendered, and in the last month, ASIC’s first greenwashing prosecution proceedings filed against Mercer Superannuation.

Similarly, the Australian Competition and Consumer Commission (ACCC) has sharpened its focus, releasing a report this month-Greenwashing by businesses in Australia-which summarises its findings following an internet sweep of environmental claims by Australian businesses.  The report identifies a number of high-level concerns across the industries targeted, including the prevalence of vague and unqualified claims, a lack of substantiating information, and the use of aspirational claims, with little information on how these goals will be achieved. The ACCC has flagged it will be conducting a further analysis of the issues identified, including undertaking enforcement, compliance, and education activities where appropriate. Where concerns have been identified with specific businesses, it may lead to an administrative resolution, infringement notices, or legal proceedings.

In the real estate sector, many commercial agreements now include covenants and representations in connection with environmental and sustainable practices and obligations with respect to collection and disclosure of data to enable substantiation of such claims. Below is a snapshot of common examples we are experiencing in our real estate practice:

• Green loan facilities-where the borrower covenants to use funds for identified sustainable or environmental purposes and to provide access to documentation, information, or certification the purpose has been met.
• Tenant leases-where the tenant requires the landlord to meet certain environmental or sustainability covenants or warrant performance of representations made in the lease negotiation stage. Key to these provisions is an understanding of what data is required to be collected and disclosed to substantiate performance. The driving force behind such provisions is often both securing cheaper outgoings and fulfilling environmental, social, and governance (ESG) mandates and policies.
• Landlord leases-where a landlord has committed to ESG policies or made representations to its investors regarding environmental or sustainable practices, this often requires it to ensure the tenant also agrees to operate its business in a compliant way, including agreeing to disclose information which might otherwise be kept private.
• Government leases-all levels of government have been focused on green leasing provisions in their buildings and leases since at least 2010. Whilst the concept is not new, the focus on substantiating compliance with green lease covenants is likely to come under increasing focus moving forward.
• Construction contracts-green building and sustainability initiatives in the design and construction of buildings are paramount for investors to meet their ESG representations and to achieve any meaningful reduction in carbon emissions in new and renovated buildings moving forward. A new layer of risk requires management as new and innovative carbon friendly materials are introduced to the market and the focus on reducing embodied carbons continues. A further challenge is addressing the increasing focus on disclosure of documentation and reporting as the requirement to substantiate environmental mandates and covenants increases.
• Land sale and permanence obligations-as more businesses adopt targets to reduce carbon emissions, we expect to see an increase in participation in the government’s carbon crediting scheme, the Emissions Reduction Fund (ERF). The ERF allows eligible participants to earn Australian carbon credit units (ACCUs) under the Carbon Credits (Farming Initiative) Act where they establish and operate eligible ERF projects. On issue of the ACCU, ‘carbon permanence obligations’ arise which run with the land. Rural land acquisitions in particular will require an additional layer of due diligence and negotiation where permanence obligations exist to ensure a clear understanding of the covenants and obligations that attach to the land and security of any benefits able to be transferred with the land.

Where to from here?

As Australia’s strategy to achieve net zero by 2050 unfolds, we expect to see-

• a sharp focus across all commercial dealings in the real estate industry on the allocation of risk and responsibility for implementing sustainable and environmental outcomes
• potentially onerous obligations around disclosure of information and evidence to enable substantiation of sustainable and environmental representations.

Drafting of clauses dealing with sustainability and collection of data to enable substantiation will require close attention to effectively pass-through obligations and ensure compliance.

Our team would welcome a discussion regarding your businesses ESG strategy and can assist in drafting and reviewing commercial contracts to best achieve these outcomes.