COP27 Takeaways for the Building Industry: Bitter Pills and Breathing Buildings

The United Nations climate summit laid out the dollars and cents argument for decarbonizing buildings sooner rather than later


A key feature of capital markets is that all participants have the same access to information, allowing them to make decisions on the same set of facts. But what happens when the world is changing so quickly that yesterday’s definitions no longer apply, and people have no shared baseline? 

In a way, that’s where the commercial real estate and finance industries currently are in respect to climate risk. Not only are there multiple new categories of risk to address, but the way to measure them, how they’re valued, and how they’re dispersed are still very much in flux. 

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Over the last two weeks, representatives from countries, corporations and organizations have been meeting in Egypt for the United Nations’ 27th international climate summit, known as COP27 (for conference of parties). 

For the second consecutive year, the building industry has featured prominently at the largely diplomatic event, as the extent of its impact on carbon emissions has become an increasingly central concern. In addition, there are now 158 countries that have included energy efficiency and building decarbonization in their national commitments, up from 88 in 2015, according to the 2022 Global Status Report for Building and Construction released by the U.N. during COP.  

One overarching theme was whether the target set seven years ago at the Paris Agreement of keeping the world from warming above 1.5 degrees Celsius was out of reach, said Billy Grayson, an executive vice president at the Urban Land Institute. “The general consensus was that we’re not going to hit the 1.5 directive and that we need to get really serious about the 2-degree pathway,” Grayson said after returning from Egypt. “It’s not giving up, but it means we have to also prepare for a century’s worth of 2-degree warming.”

While many are still using the 1.5 target, the danger of hanging on to it is failing to adequately prepare for the consequences of exceeding that degree of warming. 

“The reality is that most of our clients are motivated by risk,” said Jo da Silva, global director of sustainable development at engineering firm Arup, during a COP panel on decarbonization. “Once you turn the conversation not into an aspiration to save the world, but into, ‘You are going to have stranded assets. No one’s going to want to rent your [building], no one’s going to want to buy it off you at a future date unless you improve the efficiency radically.’” That gets people to listen. 

At the building pavilion, discussions ranged from technological innovations in building materials, to financial valuations and regulatory regimes. And given the more obvious effects of climate change over the past year, discussions have a new urgency. Here are some of the key takeaways for commercial real estate lenders, investors and owners.

Whole life

Over the last year, engineering firm Arup has created a database that measures “whole life” carbon — carbon emitted throughout the life of a building — in close to 1,000 buildings across 30 countries to create a baseline for future targets. 

While many companies have committed to net-zero carbon by 2030, or some other deadline, that is difficult to accomplish without information about where emissions are coming from. A “whole life” approach measures both embodied carbon embedded in the construction and construction materials of a building, as well as operational carbon footprint, or what’s emitted throughout the life of the building via heating, cooling, air filtration, electricity and other necessary functions. 

One of the things that’s been really prevalent here is the importance of net-zero standards and the need for some international agreement on what net-zero standards are, so when we talk about embodied carbon, whole body carbon, we’re all talking about the same figures and we can compare like with like,” said Nigel Tonks, sustainable development lead at Arup.

It’s a pretty obvious idea in retrospect, but until recently the decarbonization focus in real estate has largely been directed at energy efficiency rather than the entirety of the building’s footprint. The whole life carbon approach also encourages developers and designers to discuss the carbon footprint from the very beginning of the design process.

And, even within energy efficiency, it’s not that simple.

“To get to net zero, you have to be really energy efficient, all electric, and use all renewable energy, from on- or off-site,” said ULI’s Grayson. ”If your building uses gas, you’re not on that path.”

Arup is not the only company attempting to create standardized benchmarks. In the United States, the Energy Star framework is an established and trusted rating, and the ASHRAE (American Society of Heating, Refrigerating and Air-Conditioning Engineers) standard is used in legislation like the Inflation Reduction Act. 

Additionally, in countries or cities where carbon regulations are going into effect, there are various metrics used to define those standards, particularly in the European Union, where the regulatory regime is furthest ahead. 

‘Bitter pill’

These regulatory movements are known as “transitional risk” and, despite its very real consequences, it is not currently being priced into real estate values, Guy Grainger, global head of sustainability and ESG at global brokerage JLL, said during a panel on climate finance. 

This is particularly true for assets where the investment to bring buildings into compliance outweighs their value, otherwise known as stranded assets. “This is where the economics and the reality are different,” Grainger said. “It’s not actually hard to work out how these changes are affecting the underlying value. You can do it, you just don’t like the result.”

Around 80 percent of office buildings that exist today could still be in use in 2050, the deadline to which many countries and corporations have committed to be net zero, according to a recent report from JLL. That means all of those buildings will need to be retrofitted to meet coming carbon emission standards.

“The future cost of compliance with net-zero regulations and the worry about a stranded asset is not being priced into the price of real estate assets,” ULI’s Grayson agreed. If that future value erosion is taken into consideration, older assets would potentially fall to a price where it would become viable to retrofit them, thus “unstranding” them. 

“I think taking that bitter pill of realizing that actually we need to start from a different place in order to make sure we put the capex into the building, it’s something that the industry’s struggling with,” said Grainger. 

In some places, this is not a future problem. 

“Those assets aren’t selling anymore, they’re becoming illiquid. For a real estate investor or financier, that’s the worst nightmare — a real asset that’s no longer liquid,” said Grainger. “And that’s happening now. Six months ago you could sell off stranded assets and some fool would buy them. We’re seeing real evidence that that’s not happening now, particularly in Europe.”

Stranded assets

There are two sides to the value equation. On the one hand, “brown buildings” that will require significant investment to reach regulatory targets are not being priced for that erosion of value. On the other hand, “green buildings” are not being rewarded for the value they’re adding by pre-empting the coming regulations, as well as meeting investor and tenant demand. 

“It’s hard to accelerate our progress if people are not correctly pricing assets that are not on the path to decarbonization,” Grayson said. “If I decarbonize but can’t capture value on exit, if I can sell both buildings for the same amount, there’s less incentive to future-proof it.”

That’s despite the fact that regulations are already taking effect. France and Denmark have implemented lifetime CO2 levels for new buildings; Hong Kong has passed a carbon tax; and some countries have bans on natural gas going into effect as soon as 2030. In New York, building owners will be fined if they can’t meet certain CO2 emissions benchmarks; in Washington, D.C., it’s based on energy efficiency; in Boston it’s a combination of both. 

“In the U.K., if you can’t meet certain standards, you lose your certificate of occupancy, until you meet the standards,” Grayson said. “In New York, you’re not truly stranded, but there’s an immediate erosion of profit that you can predict and calculate.”

And with the office market already facing extremely high vacancy rates, the much-cited “flight to quality” means the flight from large swaths of older, energy-inefficient buildings. 

“There are offices that are probably worth $1 in some major business districts, but they’re not priced that way, because there’s still this idea that by the time those buildings have a cash flow issue, things will have turned around,” Grayson said. “Those buildings aren’t stranded but there is a liquidity issue. There aren’t a lot of investors looking for energy-inefficient, Class B office buildings in central business districts.”

But where there’s distress in real estate, there’s also opportunity. 

“If you get the market to price green buildings and brown buildings correctly, people will get rewarded and will build more of them,” said Grayson. “The real key is on exit you get rewarded for the value you created by decarbonizing your building.”

Since there are still so few buildings in most major markets that meet individual countries’ or cities’ regulatory carbon standards, there will be tremendous demand for them. “If you produce that now, the upside is huge,” said JLL’s Grainger. “If you’re brave enough to make that step even in this market, you’ll reap the rewards.”

180 million tons of cement

Close to 50 percent of a building’s carbon emissions comes from its embodied carbon, or the carbon emitted when creating the materials used to build it. That means that any decrease in the most ubiquitous materials — particularly cement — would have huge positive impacts. 

Or, in the words of Magali Anderson, chief sustainability and innovation officer at Holcim Group, one of the biggest cement makers in the world: “My job is to decarbonize 180 million tons of cement. I don’t have time for small scale.”

Holcim, along with many other organizations, are promoting the use of Limestone Calcined Clay Cement (LC3), a new type of cement that is based on a blend of limestone and calcined clay — instead of the standard clinker —  which can reduce CO2 emissions by up to 40 percent. 

“What we need to do if we want to maintain this 1.5 degrees is scale it up, and scale it up fast,” Anderson said. 

The innovations don’t stop there. 

Breathing buildings

Representatives from architecture firm Skidmore, Owings & Merrill (SOM) presented their vision of a “breathing building,” which takes in air and filters out the carbon dioxide, releasing cleaner air back into the atmosphere. Not only would such buildings not emit carbon dioxide, but they would also act as carbon sinks, removing carbon from the air — just like trees.

SOM’s design, called  “Urban Sequoia,” is a modular urban high-rise that utilizes the stack effect for air intake and filtration. But the basic idea of using buildings for carbon capture has much wider applicability, said Chris Cooper, a SOM design partner who presented at COP.

“We focused on what we thought was perhaps the greatest offender, which is density high-rise construction,” Cooper said. “And also what we think is a solution for the future because urban density, concentration, is a more green solution for the planet.”

In fact, the global population is expected to increase by 2 billion people by 2050, which is roughly the same amount of people that are expected to migrate to cities in that time, said Yasemin Kologlu, a design principal on the Sequoia project. 

“Cities have to be part of the solution,” Kologlu said. “Any solutions we have need to be scalable, of course, but also address some of these global trends as well.”

One challenge to this model is that, unlike energy efficiency, carbon capture may not have direct benefits for building owners so they would have to be incentivized to include the technology that allows for it, though it could help them reach carbon emissions targets. 

“We’re starting to see these policies that incentivize carbon capture, but also penalize carbon emissions, too. So systems like this coming into buildings could actually really help with this,” said Kologlu.

And, for governments, it may be worth providing such incentives because it could save them the need to build large carbon capture plants on valuable land.

As is often cited, the built environment emits 40 percent of global carbon emissions, so any aspect of a building’s life cycle that is decarbonized — from construction method and building materials, to operational efficiency and carbon capture — can have outsized positive impacts.

“We have to think very aggressively about making change,” Cooper said, referring to the industry as a whole. “It’s not about ‘It’s our fault;’ it means it’s our ability to impact change.”