Sustainability in the real estate industry: the importance and influence of ESG ratings

Sustainability is playing an increasingly important role in the real estate industry. ESG ratings enhance transparency regarding the sustainability performance of companies and properties. Therefore, they do not only influence investment decisions, but also the valuation of real estate.

In this article, we take a look at what the term ESG stands for, and how an ESG rating impacts a property or portfolio. Moreover, we explore the key aspects of ESG and the advantages of achieving a high ESG score.

The design of buildings and construction projects has not only a significant impact on the quality of life and well-being of the people living in their surroundings but also on our ecosystem. According to the German Environment Agency, the operations of buildings in Germany currently account for approximately 35 % of final energy consumption and around 30 % of CO2 emissions (1).

Reducing energy demand and improving the sustainability of buildings is therefore not only a key objective of climate protection policies, but also in the interest of investors and tenants who benefit from lower operating costs.

However, sustainability in the real estate sector is no longer just an economic consideration - it has also become a regulatory necessity. Laws and directives such as the EU Taxonomy and the Corporate Sustainability Reporting Directive (CSRD) are continuously tightening the requirements for sustainable practices.

The term ESG was introduced as a concept for evaluating sustainable investments in the early 2000s. ESG does not consider sustainability to be just an environmental issue but also encompasses social and corporate aspects. The acronym ESG stands for Environment, Social and Governance and is now considered the global standard for evaluating sustainable investments and corporate governance. The following graphic summarizes the key aspects of the various ESG core areas.

There are now numerous rating systems, e.g. from ECORE, GRESB, MSCI or S&P, that enable buildings or portfolios to be rated based on ESG criteria and award a corresponding ESG score.

With a high ESG score, real estate is future-proof not only from a financial and operational perspective, but also from a regulatory viewpoint. The advantages of a positive ESG rating are summarized below.

Financial advantages:

Higher sales prices and rental income: Properties that meet fewer sustainability criteria often experience significantly higher losses in value and drops in rental income compared to more sustainable properties. This is referred to as the brown discount. Sustainable properties with a high ESG rating can be let at better conditions. This makes them significantly more attractive to investors and allows them to achieve higher sales prices.

Better financing options: Banks and investors prefer sustainable real estate and often offer better credit terms or green financing options.

Operational advantages:

Lower operating costs: Buildings designed with sustainability in mind have lower overall energy consumption due to their higher energy efficiency. In addition, the use of renewable energies such as solar energy is significantly cheaper than conventional grid electricity.

Greater tenant appeal: Energy-efficient properties attract both companies and private individuals by lowering utility costs – e.g. through affordable rooftop solar power - and enhancing quality of life.

Regulatory advantages:

In an environment that is becoming increasingly stringent due to new legal requirements such as the EU taxonomy, the Building Efficiency Directive or the CSRD, properties and portfolios with a high ESG scoring are future-proof. This helps owners to avoid fines and potential retrofitting costs.

ESG encompasses much more than just environmental aspects – it also integrates social and corporate governance criteria. In view of the far-reaching financial, operational and regulatory implications, it is essential for real estate companies to consistently address ESG measures. Those who successfully implement ESG not only ensure long-term competitiveness, but also meet increasing market and legal requirements.