“About one-third of all retrofitting
will be for energy or conservation
efforts. Some say that equates to
north of $18 billion over the next
three years,” says Polentz.

PALO ALTO, CA-Many of today’s commercial buildings are being constructed with energy efficiency and economically sound principles in mind. LEED certifications have become practically commonplace, and architects and developers are creating properties that are cleaner and greener than ever.

But what about existing buildings, particularly those constructed more than a couple of decades ago? Retrofitting these properties to become more sustainable can be extremely costly, and in the current economy many owners don’t have the means to do complete overhauls. Fortunately, options do exist for making buildings greener without going bankrupt. Some involve taking advantage of existing financing programs, while others deal with reexamining operating procedures.

“There’s an increased interest in sustainable retrofits because there’s a lot of older product out there,” Michael Polentz, co-chair of the real estate and land use practice at Manatt, Phelps & Phillips in Palo Alto, CA, tells GlobeSt.com. “The people tracking the numbers are suggesting that about one-third of all retrofitting will be for energy or conservation efforts. There are some large national contractors who say that equates to north of $18 billion over the next three years. The challenge: how to finance the projects. A lot of people are struggling with this.”

Pike Research, a Boulder, CO-based market-research and consulting firm, estimates that energy-efficient retrofits will expand globally from $80.3 billion in 2011 to $151.8 billion by 2020. It also predicts that North American energy-efficiency revenues will more than double over the remainder of the decade increasing to $35.3 billion by 2020.

Polentz says that in order to finance these retrofits owners may take on a traditional real estate financing structure with debts on their balance sheet or secure the debt against the real estate, “but that only works if there’s enough equity in the existing real estate. How do they underwrite these types of projects? There hasn’t been a good solution in the private market yet.”

One possibility is to look toward energy-service companies (a.k.a. escos) that have figured out how to monetize these types of improvements by maximizing pay growth rates and ROIs, Polentz says. “They will purchase the equipment or retrofit construction activities and set up programs and get a return on their investment, so to speak, as it relates to these programs. It’s similar to solar lease programs where you have a 20- to 25-year solar lease and a buyout right on the back end.”

The problem with escos is that there’s not a huge movement for this type of program in the US, unlike in Europe where this has been implemented for the last 15-20 years. However, as GlobeSt.com previously reported, solar programs on industrial property roofs called rooftop photovoltaic installation is one way for owners to work with escos to generate significant additional income without any investment on their part. 

While investors can take advantage at the federal level with tax credits on sustainable improvements, many programs are sun-setting or have short expiration dates. “The appetite for the tax-equity players of the world is not as robust as it has been in the past,” Polentz says. “Because of that, there’s even less impetus for large investment players to look at new models without having certainty on the regulatory front.”

Financial institutions, think tanks and universities are also trying to devise a model that will allow large-scale energy retrofits to be financed. The creation of a securitized market similar to the CMBS market is one option, where an investor would be able to sell these instruments on the secondary market. White papers in the US and abroad have been written on the subject, and if it came to fruition, it would give traditional lenders the ability to underwrite these types of loans, bundle them and sell them off.

“There are a lot of unknowns at the moment,” Polentz says.

Nancy Wallace, co-chair of the Fisher Center for Real Estate and Urban Economics at UC Berkeley, agrees that the options for retrofitting are not very attractive and are rather expensive. She tells GlobeSt.com that the service company options are extremely costly, and that these companies want very substantial returns for these positions. “Property owners want the least costly way of financing this, and they’re very concerned about the payoff periods of the debt. They want debt that’s longer-term, but most of the other options—second liens and service contracts—have shorter horizons.”

According to Ken Taymor, executive director for law, business and the economy at UC Berkeley School of Law in Berkeley, CA, creating underwriting tools that can actually evaluate the energy profile of a building can help owners determine the proper course to take when considering retrofitting. Taymor in involved in research to that effect, and he maintains that complete overhauls may not be necessary for some buildings, and that by examining where sustainable processes can be enhanced and weaknesses fixed, owners can increase efficiencies in their buildings that can save them money as well as make them more environmentally friendly.

“Knowing the science of building management and knowing the features of your building may be more efficient than going and getting a loan and installing all sorts of new stuff in your building,” Taymor tells GlobeSt.com. “Before running to look at capital improvements, look at building management and operational improvements. If you’re looking at capital improvements, the analysis of the savings really needs to be individualized to your energy consumption.”

Choosing to operate buildings more efficiently can afford building owners LEED EBOM certification, Bob Sykes, a partner with Cox Castle & Nicholson LLP in Los Angeles, tells GlobeSt.com. This certification is given to existing buildings whose owners have made sustainable improvements via operations and maintenance rather than retrofitting.

“As of March, 31,000 projects were LEED-certified in 2 billion square feet of commercial projects worldwide,” says Sykes. “Because of the economy, more and more are becoming certified through the less expensive LEED EBOM, which focuses on operations and maintenance as opposed to expensive retrofits.”

In addition, Sykes says, some lenders including Wells Fargo have made financial commitments to social-responsibilities programs such as solar energy and wind-efficient buildings Seeking out these lenders and programs is one way to subsidize the cost of making buildings more sustainable.