Savills: Covid-19 will increase lenders’ focus on ESG

Environmental, social and governance concerns have remained high on commercial real estate lenders’ agendas, despite the turmoil caused by the covid-19 pandemic, property consultancy Savills said during its 32nd annual Financing Property presentation on Thursday.

During the webcast, Ian Malden, head of valuations at Savills, said coronavirus has encouraged a greater focus on the social and governance aspects of ESG, as lenders and sponsors consider the way the pandemic will shape the industry. Malden said the more “inspired lenders” have responded positively to their clients’ ESG strategies, for instance by offering green loan products, while others have been more reactionary.

“We’ve been very encouraged during our lender interviews this year that despite covid-19 many say pursuing an ESG-led lending strategy is still their priority,” said Malden.

Becky Gaughan, director of valuation at Savills, said ESG concerns have risen up the industry’s agenda in the past 12 to 18 months: “The way we invest and the way we lend has changed massively since 2008. ESG was there in the background but now it is embedding itself into standard lending.”

Gaughan cited high-profile examples of recent ESG-linked loan deals, including credit facilities sourced by UK real estate investment trusts Derwent London and Great Portland Estates, but she added: “ESG principles can be embedded into lending generally – it is not just for the big REITs.”

Gaughan said covid-19 has put a renewed spotlight on the social element of ESG in the property market. Social factors around placemaking are increasingly being considered, including the wellness and the provision of public realm.

While acknowledging the progress made in ESG financing, Savills indicated the industry still needs to take further action on climate change and sustainability issues in general. Malden said: “As providers of capital, there are huge opportunities for lenders to drive higher environmental standards across the board and improve their security.”

Emily Norton, head of rural research at the consultancy, advocated the need for a “new way of thinking” when it comes to ESG, based on three factors: responsibility, resilience and regeneration. According to Norton, these are the three characteristics required to thrive in a challenging, complex commercial environment, which also require significant innovation and self-disruption. For most companies, the path to resilience and regeneration will require unprecedented collaboration across value chains to disrupt the status quo, she said.

Mat Oakley, head of Savills’ UK and European commercial property research team, said ESG will be dominating industry conversations in 18 months to two years, rather than covid-19. Oakley expects a rebound in investment activity later this year and predicted the pandemic would be a “one-year hit” to the industry. He added that the recessions the UK and other economies will suffer due to the pandemic will accelerate ongoing trends in the property industry.

“The shape of the recovery is very dependent on consumer behavior, which is impossible to predict but could have wider impacts on commercial property,” said Oakley.

Green premium

Savills argued that lenders are moving further towards awarding a ‘green premium’ to borrowers as they recognize the economic benefits of sustainability in real estate.

To date, with insufficient evidence to prove that ESG assets outperform the rest of the market, lenders have instead focused on imposing stricter borrowing terms on those projects with fewer ESG attributes rather than rewarding those that offer them, Savills said. Lenders are increasingly embedding ESG measures, such as the Loan Market Association’s Green and Sustainability-linked Lending Principles in their lending policies, and some are taking this further to develop specific green products.

According to Malden, this shift in lenders’ approach towards ESG sends a clear message to those still dragging their heels on ESG. “The gulf between the financing available to projects at either end of the ESG scale is set to rapidly widen. Those that fail to take heed will at some point face issues accessing finance, resulting in limited options and punitive borrowing terms.”