Buying Greener Leases for Government Facilities

Tuesday, June 11, 2013 ▪ 2:45 pm – 4:00 pm, Garden Salon Two, 2nd Fl.

Presented by: Adam Sledd, Program Manager, Institute for Market Transformation Investment Commission

This session will examine how state governments can save on operating costs and improve the energy performance of leased facilities by changing the lease documents. The presenters will review existing efforts by the federal government and Washington state as well as useful lease guidance from the private sector. ABOUT THE SPEAKER ADAM SLEDD is the Program Manager of Green Leasing and Federal Buildings at the Institute for Market Transformation. Adam works with commercial real estate stakeholders to improve energy efficiency through leasing and tenant engagement practices. He helps individual companies and government agencies create energy savings by solving the split incentive and other lease issues. Adam speaks regularly on energy efficiency to industry groups, and has developed several widely-used lease guidance documents. He also manages the www.greenleaselibrary.com website as part of a collaboration with the Department of Energy.

As a founding partner at Sledd Properties LLC, Adam brings almost a decade of commercial real estate management experience to IMT. Adam received his bachelor’s degree in media studies from Pitzer College and is currently working toward his MBA at American University. NOTES: ____________________________________________________________________________________________________________

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Greener Leases For Government

Facilities

Adam SleddInstitute for Market TransformationJune 11th 2013

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Cycle‐7

With Additional Materials From

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Learning Objectives

1. Clearly define “Green Leasing” as a concept.

2. Explain how green leases are used in the marketplace.

3. Show how green lease concepts are currently being applied to state leasing efforts.

4. Explain how GSA has implemented green lease concepts.

5. Provide resources and next steps.

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Facilities Administrator’s Problem:

How do I save energy without spending more money?

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A lease in which landlord and tenant agree to include sustainability concepts and assign costs and benefits of sustainability improvements.The goal is to align incentives to minimize “split incentive” problem.

Defining Green Leasing

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Green Leasing Means More Than LEED

≠Energy Efficient

LEED is great, but leasing space in a LEED building does not ensure energy efficiency or a green lease.

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Why Do Landlords And Tenants Care About

Changing The Lease?

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• Fix the split incentive problem and maximize potential for energy efficiency improvements.

• Ensure that the lease helps each side meet sustainability goals.

• Anticipate lease issues caused by new or potential policies and regulations.

The short answer:

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InstitutionalInvestors

RegulationRivalryAmongCompetitors

PortfolioOwner/Manager

Tenants

FinancialInstitutions

External Forces Driving Sustainability in Commercial Real Estate

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Reasons behind rising tenant demand include:

1. Large corporations (representing both office and retail tenants) are increasingly considering sustainability as part of their corporate agenda. 

2. Several studies (like this one) show that the younger generation of workers vastly prefer to work for firms that are environmentally friendly.

3. Consumer studies show an increasing preference for companies and products that they consider socially responsible (see here and here). This should have a growing effect on retail sales moving forward.

4. Initial research efforts show significant productivity gains from employees working in green buildings, including very high dollar figures for LEED‐certified PNC bank branches.

Several Factors Are Creating Tenant Demand For Green Buildings

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Efficient Operations Improve Tenant Comfort

• New technologies allow better control over temperature

• Fewer hot/cold calls

• New technologies allow better control over temperature

• Fewer hot/cold callsTemperature

• New central building systems allow integration with tenant systems for smoother operations

• New central building systems allow integration with tenant systems for smoother operations

Systems Integration

• Fixing inadequate building ventilation improving fresh air flow and tenant health

• Fixing inadequate building ventilation improving fresh air flow and tenant healthVentilation

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Brighter, More Comfortable Space = Higher Employee Productivity

From World Green Business Council’s “The Business Case For Green Building” Report

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Building Energy Efficiency Matters

Washington, DC GHG Emissions

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Efficient Buildings Are Valuable Buildings

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Eventually Everyone Wants On The Efficiency Bandwagon

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Sounds great– but it’s the landlord’s building.

The landlord should just upgrade it, right?

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Most Energy Use Comes From Central Systems

Efficient Building

Inefficient Building (30% + greater)

Conveying

Lighting 23%Plug‐ins(computers, appliances, etc) 27%

Heating 15%

Cooling17%Ventilation

13%5%

Core Building50% ‐ 60% ± 10% depends 

on tenant cooling

Tenant Lighting13%

Plug‐Ins27%

Core Building59% ‐ 69%

± 10% depends on tenant cooling

Plug‐Ins21%

TenantLighting10%

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Multiple Fixes For Inefficient Buildings

• Direct digital control and sequencing of major systems

• Scheduling, setpoint and setback optimization• Demand controlled ventilation

Controls

• Constant to variable primary/secondary chilled water

• Controls, valves, variable frequency drives (VFDs)• Power factor correction capacitors

Mechanical

• Constant to variable air volume with VFDs• Automation of terminal units• High efficiency boilers and chillers

HVAC

Lighting• High efficiency lighting

• Controls, scheduling

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Improving Systems Has A Measurable $ Impact.

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But There’s An Obstacle-- The Split Incentive Problem

Capital outlay for

new building systems

Resulting savings

Building ownership

entity

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Who Pays For Efficiency?

Full service gross

Modified gross Net lease

Owner pays for all core building operating and capital expenses.Most government leases.

Owner pays for capital and a “pool” of operating expenses. 

Tenant pays all increases in the pool after the first year of the lease.

Tenant pays base rent and all operating costs defined in the lease, and may or may not pay for capital improvements.

Owner pays

Tenant pays

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• Only operating costs included as “Additional Rent”

No capital expense sharing

• Amortized to tenant by useful life (GAAP)

Capital expense

sharing only for items that

save operating

Limited Capital Expense Pass Through

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Multi-tenant Buildings Offer Further Challenges

Tenants

SquareFeet

Lease Type

Lease End Date

Capital Expenditure

Sharing

A 200,000Modified Gross 1/1/2013 Useful Life

B 200,000Modified Gross 1/1/2015 None

C 200,000Modified Gross 1/1/2017 Useful Life

D 200,000Modified Gross 1/1/2019 None

E 200,000Modified Gross 1/1/2021 Useful Life

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No Savings For Either Side Without Retrofit

Tenant retains savings

Project payback>5

years

Landlord cannot finance

projectNo retrofit

occurs

Landlord and tenant

overpay for inefficient building

X

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PlaNYC/REBNY Clause

• Developed in conjunction with New York City Mayor’s Office for use in city leases.

• Landlord recovers cost quickly, tenant nets additional savings after payback.

• Meant for use with sub or separately metered spaces.

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How It Works

“…Landlord may include in Operating Expenses a portion of the aggregate costs of such Capital Improvement equivalent to eighty percent (80%) of the Projected Annual Savings…”

Landlord charges   80% X $500,000      or $400,000

$2,000,000

$500,0004‐Year Simple Payback

Project Cost 

Projected Savings

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Pass Through Based On Projected Savings

Return to tenant through the expense escalation process

Paid for by tenant through estimated savings

Excess Savings

Savings Shortfall

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Full service leases used by government administrators provide cost certainty, but—

1) All savings go to owner

2) No incentive for building occupants to save energy.

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What Else Should A Green Lease Do?

Landlords and Tenants often have energy or sustainability goals that should be addressed in other lease sections.

NRDC Lease Guidance:

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Can extend to most sections, but typically include:

• Building use• Operating Expenses• Maintenance & Repairs• Alterations & Improvements• Utilities & Services• Insurance• Assignment & Subletting• Rules & Regulations• Workletter

Sections In Lease Affected By Green Clauses

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Frequently Cited Obstacles To Green Leasing In The Marketplace

• Energy efficiency concepts and benefits not well understood by all four stakeholder groups.

• Even among landlords/tenants with sustainability goals, knowledge is not filtering down to those responsible for leasing efforts.

• Lawyers often negotiate out key points and slow down the process.

Photo courtesy of Flickr user: Michael W. May

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• Government can lead by example• Provide more comfortable space to client

agencies• Potentially save money• In some cases significant impact on CRE

market

Why Should My Agency Care?

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1: ENERGY STAR/LEED certified building mandate (or preference)

2: Submetering/Separate metering/utility reporting

3: Build-out requirements

4: Building operations requirements

Elements of Greener Leases For Governments

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• U.S. GSA, Washington State, California DGS among agencies to require leases in Energy Star certified (score of 75+) buildings.

• Certain exceptions or allowances to help market-- less than 10,000 square feet rented, allowance for vacancy issues.

• Simple, performance-based requirement.

ENERGY STAR/LEED Mandate Policy

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• Washington state passed a bill requiring leases in Energy Star certified buildings. GSA, California have internal policies.

• GSA policy includes leased spaces over 10,000 square feet nationally.

ENERGY STAR/LEED Mandate Policy Cont’d

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• U.S. GSA, Maryland DGS, California DGS among agencies requiring landlords to provide information on utility use in tenant space.

• Without submeters or utility reporting, agency can’t report true GHG emissions or energy use.

• “You can’t manage what you don’t measure.”

Metering/ Utility Reporting Requirement

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• Performance vs. prescriptive based requirements

• Flexibility is key: success of measures depends on starting point

Build-Out Requirements

Image from NRDC Li Fung case study

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• Require landlords to retro-commission systems, perform energy audits regularly.

• GSA lease requires energy-saving renovations if economically feasible.

• Building operating hours significantly impact energy use.

Building Operations Requirements

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Green Leasing and GSA/Federal Clients

• In response to EISA 2007 and E.O. 13423, 13514

• Website for GSA green lease requirements: http://www.gsa.gov/portal/content/103656

• Goal of annual updates to sustainability requirements

• Full service leases with T.I. built into base rent

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• Goal to save energy without compromising competitive bidding.

• New or mostly vacant buildings have 18 months to earn Energy Star label.

• Future changes to require more utility reporting from landlords, updated lighting requirements.

GSA Tenants and Green Leases

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Additional Resources

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Additional Resources

http://www1.eere.energy.gov/seeaction/42

What can you do now?

1. Learn more about green leasing at www.greenleaselibrary.com.

2. Look for opportunities to change leasing approaches –upcoming renewals, new leases.

3. Get buy-in from clients and contract officers.

4. Contact SEE Action Network team for additional assistance.

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Thank You.

Questions?

www.greenleaselibrary.com

www.imt.org/green-leasing

Email: adam@imt.org

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