Green Buildings Demonstrate Significantly Higher Office Rental Rates
The most common question asked about green office buildings is whether they have higher rental rates than comparable non green buildings?
It may be curious to some that the question is not about whether green office buildings have higher construction costs, but that may be explained as the period of early adopters has passed and today green building often has zero additional first cost or very low single digit additional cost.
This article reports on the added value of green office buildings in their financial performance.
This article considers several peer reviewed studies and the preliminary data from an original research effort by this law firm tracking green building rental rates in leases involving clients. The studies identify rental rate, sale price and occupancy premiums for green office buildings.
The rationale for reviewing several studies along with the firm’s original data is that the voluntarily green certified sector is miniscule in relationship to the total commercial real estate inventory, there are a host of variables ranging from that there is no one homogenous building type to tremendous variances in rental rates not only from market to market, but also within submarkets, that green building are both newer and taller than the general office market, such that measuring and comparing rental rates and attempting to control for differences is fraught with difficulty. For the purposes of this article, the theory is that more information is better.
This article considers LEED® certified buildings and Energy Star rated buildings.
Preliminary data released in October 2011 in the third phase of the widely reported multi year study begun in 2009 by CBRE, the University of San Diego’s Center for Real Estate and McGraw Hill Construction, which study surveyed 150 CBRE managed office buildings across the country found “aggregated data on LEED certified buildings over three years shows an average 3.1% improvement in both rental rates and building occupancy in comparison to the general market.” The complete study is to be released soon.
Measuring the Effects of Environmental Certification on Office Values, by Franz Fuerst, et al, published in Real Estate Economics, 2011, utilized a sample of 197 LEED and 834 Energy Star as well as over 15,000 benchmark buildings. The data showed there is a rental premium of approximately 5% for LEED certification and 4% for Energy Star certification. For sales prices, the study reported a price premium of 25% for LEED certified buildings and 26% for Energy Star.
The Fuerst study notes, as it attempted to control for differences, Energy Star buildings tend to be on average nearly 20 times larger than noncertified buildings. There are also some notable differences in that 12% of Energy Star buildings have triple net leases compared to gross or full service leases and 10% of LEED buildings have net leases.
Doing Well by Doing Good? published in the Green Office Buildings Annual Economic Review, by Piet Eichholtz, et al, December 2010, used a sample from CoStar Group data of about 10,000 buildings divided into about 900 clusters, each containing one green labeled building and nearby unlabeled buildings. Buildings with a green rating commanded rental rates 5.2% higher per square foot for LEED certified buildings and 3.3% higher for Energy Star than otherwise identical buildings, controlling for the quality and the specific location of office buildings. Premiums in effective rent are even higher, 7% for both green certifications. Selling prices of green buildings are 11% higher for LEED certified buildings and 19% for Energy Star.
Sustainability and the Dynamics of Green Building also by Piet Eichholtz, et al, published in October 2010 in RICS Research, reexamined a “comprehensive panel of green office buildings and nearby controls first observed in 2007” and reported rental rates 5.8% higher per square foot for LEED certified buildings and 2.1% higher for Energy Star than controls. Significantly, labeled buildings have effective rents 6% higher than otherwise identical nearby non-rated buildings. This reflects the higher occupancy rates, on average, in labeled buildings.
Charting the selling prices of green buildings and nearby non green buildings between 2004 and 2009, the boom and subsequent bust in the market for commercial office space is clearly reflected in the year of sale where selling prices in 2007 were some 44% higher when compared to office buildings sold in 2004, however were unchanged from 2007 to 2009. In terms of asset value, however, the Eichholtz study concluded an otherwise identical green building now sells for a premium of 11.1% for LEED certified buildings and 13% for Energy Star.
Green Design and the Market for Commercial Office Space by Jonathan Wiley, et al, in the Journal of Real Estate Finance and Economics, 2010, looked at leasing activity in 46 markets across the U.S. The results provide solid evidence that green labeled buildings achieve significantly higher rents, 7.3 to 8.6% for Energy Star properties and 15.2 to 17.3% for LEED certified properties. Simultaneously occupancy levels are higher by 10 to 11% for Energy Star properties and 16 to 18% for LEED certified properties. The empirical results provide evidence that both Energy Star labeled and LEED certified properties sell at significant premiums over comparable properties, 8% and 18% respectively.
Our own data was provided by clients and friends of this firm from 141 lease transactions across the country, from Rockville and Bethesda, Maryland and Bloomington, Minnesota to Chicago, Denver, Atlanta, Seattle, Los Angeles, San Francisco and Washington DC, during the first three quarters of 2011. In an admittedly less than statistically pure analysis, we benchmarked against CoStar Group data and preliminary partial year results from the Stuart D. Kaplow, P.A. Green Rents Study found a 7.2% rental rate premium (approximately $29 per square foot) for LEED offices over the comparable market lease rate, but that non LEED space was leasing at 4.1% below the market (approximately $25 per square foot), that is, LEED rental rates were 11.3% over non LEED rates.
Curiously, in our own data LEED buildings had an 81% occupancy rate while non LEED buildings had an 83% occupancy rate; which may not be statistically significant or may be explained by the fact that the LEED buildings were newer.
Sustainability has increased importance in the commercial real estate industry in recent years. In 2011 more than 35% of all new nonresidential construction starts in the U.S. were estimated to be green. Green office buildings are becoming a key feature of the commercial property landscape. While the broader benefits of sustainability are well known, the key challenge from a real estate industry and lender perspective is the justification of the economic rationale and business case for green buildings. That is, do green office buildings add value? This article makes clear the answer is yes.
It is beyond dispute that green buildings demonstrate significantly higher rental rates than the general market.
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