Housebuilders, banks, and investors gathered in July in London to discuss the findings of Womble Bond Dickinson’s report ESG: Investing in the built environment.
We collaborated with the Cambridge Centre for Housing and Planning Research to develop new research published in June 2023. Key themes of the report include the drivers behind the adoption of ESG principles, changing investor priorities, and the banking sector's focus on sustainability linked KPI’s, particularly in Sustainability Linked Loans (SLLs).
Nicola Giddens Partner at Womble Bond Dickinson said: “We commissioned this report after identifying that built environment stakeholders are operating independently and reporting their ESG principles in different ways. Although it’s clear that some are developing partnerships across the sector, we wanted to understand what the drivers and themes are so we can foster greater collaboration. Gaps in the research raised important questions we decided to address by bringing together a roundtable of industry experts.”
ESG principles as a decision-making guide
It became clear during discussions that the extent to which ESG principles feature in a housebuilder's decision-making strategy varies. Some housebuilders early in their journey are yet to build ESG principles into their decision-making processes – with their impact depending on the respective clients and opportunities. At the other end of the spectrum, housebuilders who were early adopters are producing robust annual reports that illustrate year-on-year progress.
One contributor at the roundtable explained that the latest step in their ESG journey was looking through the materiality lens at the start of this year and going out to stakeholder groups to understand what their priorities are - the results of which are fed directly into their business plans from 2025 to 2030.
When discussing report conclusions two contributors said although the research highlighted the ‘E' (environmental) as the more mature pillar of many ESG strategies, their respective housebuilder businesses had made more progress with the 'S' (social)’. Some claimed this was due to statutory compliance placed on this pillar and requirements around procuring licenses to operate (e.g. London Plan), along with how they add value as a shared responsibility. They also suggested some local authorities have a strong view, and ambitious targets on social responsibility.
Where’s the emphasis for funders?
Funders at the roundtable were asked whether the emphasis was stronger on the ‘E’ of ESG, as the report suggests. One bank representative explained it depends on how deep you think the ‘E’ goes. He commented: “Everyone is pushing in the right direction but are we talking about the right things and learning about them in the right way? It's much more difficult when you try and push down to SMEs and one-man bands (for administration and cost reasons). From a bank perspective, we're trying to gather accurate data. The ‘S’ and ‘G’ are quite easy to assess. But we're trying to find out what 'good' looks like in ‘E’. Once we have a clear picture of that we can do more.”
Another bank representative explained that from a financing perspective SLL’s will always have scope 1 and 2 emissions incorporated into their first KPI, followed by a KPI on energy efficiency, and further KPIs undefined.
It became clear from discussions that all loans now feature the impact of sustainability issues on credit papers, which funders are required to comment on, even though this wasn't the case two years ago. The industry is now at a stage where even if projects look great from a financing perspective, they need to know what the borrower is doing on sustainability (and/or other ESG principles). This introduction of sustainability linked KPI’s as a requirement on all loans means capital availability is fast becoming linked to ESG performance. All parties seemed to agree it’s important for housebuilders to ‘get ahead’ and be ambitious with their ESG strategies for this reason. It was also suggested that this change should lead to better behaviour in industry in the long run.
Bank representatives explained they are already asking customers questions about how they are adapting to meet the net zero 2050 target but that they are keen to not leave any customer behind.
One banking sector attendee commented that the ‘S’ of ESG is an already a well-established pillar in the housebuilding sector, with often decades of experience implementing CSR strategies. They also stressed that when addressing the environmental pillar of ESG it was important to look beyond carbon emissions and address waste streams and other supply chain factors. Another growing consideration in the ‘E’ of ESG is taking a view on how buildings are kept cool during heatwaves – as well as retrofitting old buildings.
The same contributor pointed out that some of the environmental legislation on the horizon would push several stakeholders out of their comfort zone. They said: “Biodiversity will also hit all of us hard and mean we must ask a lot more questions.”
The cost implications of delivering effective ESG principles
When discussing whether costs associated with ESG principles would push small contractors out of the market, one contributor highlighted that many are grappling with other challenges currently – whether it’s post-covid ripples, a struggle to recruit the right skills, interest rates, and inflation. It was, however, suggested that there is an opportunity to change the conversation and highlight that the delivery of an effective ESG strategy will also address some of these challenges e.g. reducing your carbon footprint can reduce costs, a good ESG strategy can be a magnet for good appointments or it can support in developing solutions to plug skills gaps. Examples include the very successful Lloyds Banking Group and Homes England’s partnership with Regeneration Brainery, a property and regeneration training space for school leavers from socially excluded and deprived areas to learn and be mentored. It was also suggested that small businesses would be better able to adapt if policy makers offered clearer, longer-term policies.
Another contributor stressed the pressure to progress strategies comes from the developer rather than the funder, and that banks pushing small businesses out of the market would drive the wrong behaviour. Their view was that everyone was aware of the need for driving what should be positive action but that in some instances the industry wasn’t ready.
One of the funders acknowledged everyone in the industry has a different role to play due to the varying nature of business models. They explained that their customers, who tend to be small developers, may not be at the stage where they have the capacity to adhere to regulations but they have good intentions. If they support small schemes, it can unlock others in this space, so even if the social and environmental metrics performance of these customers aren’t where they want them, these customers are still endeavouring to achieve those goals and the discussions plant the seeds for progress in the future.
Another process flagged as driving strategies, outside of conversations with banks, is the acquisition of land. One contributor pointed out some London regeneration schemes placed more emphasis on ESG scores than the financial offer.
One potential disadvantage small contractors faced that was raised by panellists was their lack of focused ESG resource. It was pointed out that without dedicated resource it’s more challenging to adapt when long-term policy direction doesn’t exist.
The roundtable participants largely agreed that even though many SMEs probably still don’t know what ESG means for them, they make up over 90% of builders and housebuilders in the UK, which is why corporate companies need to support them on the journey.
Bringing your supply-chain on the journey
When it comes to addressing the environmental impact of housebuilder’s supply chains it became apparent during the roundtable that scope 1 and 2 carbon emissions were already widely understood, captured, and reported. There was however some debate around the status of scope 3 emissions. It was agreed that capturing data on scope 3 emissions was complex and that there isn’t a consistent way of doing it. A contributor at the roundtable suggested the categorisation of typologies that was happening as part of the Future Homes Hub would have a role to play here, supporting housebuilders drill down into the detail.
The importance of transparency
Experts at the roundtable discussed what external providers and other tools they used to verify their ESG credentials. The industry benchmark Next Generation which uses 65 criteria to measure the top 25 housebuilders on their public reporting and private disclosures was identified as a useful tool for those starting to develop their strategies and policies.
Attendees from the banking sector at the roundtable explained they used specialist consultancies to verify their pledges, again questioning the variable approach to scope 3 emissions and also pointing out that definitions of Zero Carbon and Net Zero Carbon were still to be defined. However, they did point toward the UK Green Building Council as coming up with some guidance in this area.
One attendee explained that there is a requirement on businesses to demonstrate their numbers and audit trail from beginning to end whether using an external verifier or not - although this hasn’t stretched to biodiversity and the circular economy - yet.
When it comes to SLLs, although they previously looked at things from a standard covenant perspective, now there is a lot more detail on how things will be both achieved and measured.
One attendee from the banking sector pointed out that every time you refinance a project these KPIs are revisited and that the pace of ambition was quick, so that all parties from funders to housebuilders and developers are still figuring out the best way forward. The definition of ‘good’ was always changing. The same contributor pointed out that SLL targets should be designed to stretch businesses, and that not enough were failing such targets, meaning they should be more ambitious in the first place.
When discussing whether all KPIs should be met, and if they are, are they ambitious enough one contributor pointed out that there are nuances. They said: “It’s very different if you’ve just met them, or just missed them, or blown past them straight away – lenders can figure it out quickly. The irony of meeting them comfortably is if a client performance against a KPI is materially wrong, I will look at all the client's numbers and wonder if all forecasted numbers can be relied on because the projections are materially wrong.”
The attendees agreed that there should be failure during this transitional process. Targets are set to be a challenge and it’s important to keep pushing towards new levels of innovation and achievement. However, not meeting KPIs means losing money that could be otherwise invested. There are some issues with the cost housebuilders are carrying to meet ambitious KPIs hindering further ambition, but one contributor suggested its due to the pace of change. Another banking sector contributor suggested that complacent targets wouldn’t pass through the system given the Green Asset Forum takes a ‘stringent’ review of all KPIs put forward.
They did acknowledge that in some instances they won’t go back and adjust previous homes but any investment in related areas helps future proof following projects. One contributor flagged that it’s how you reach the KPI that really matters as this will get people thinking about related matters.
The investors present explained they follow CSFF criteria (Green Funding Criteria) and externally publish their transition pathway, with one identifying themselves as an Article 9 fund, externally audited by a social consultancy. They explained: “Our external consultancy scrutinises all ESG aspects, but then we have one step further – we need to meet Article 9 criteria. We need to tick off ‘E’, ‘S’ and ‘G’ equally. The environmental side is more easily quantifiable, social side is more about affordable housing as part of a wider scheme, governance side is straightforward as we ask our partners to consistently provide their credentials on a yearly basis (Modern Slavery statements and everything else within it).”
What do customers think?
It’s not just government and industry targets demanding change in this space. One contributor stressed following the energy crisis the ESG performance of a building had become a top five issue for customers. Quality of life is a bigger driver, and most customers are interested in, not just social value, but quality of life too.
One attendee pointed towards the Energy Hierarchy and Be Seen Strategies that look at energy efficiency and how the home performs rippling out from London.
Linking industry and policy makers
Some roundtable participants present responded to the Confederation of British Industry (CBI) who coordinated the Green Technical Advisory Group but remain unclear on its progress. They explained they already had to adhere to EU Taxonomy, even though the UK Taxonomy was yet to be defined.
Charlie Reid, Partner at Womble Bond Dickinson said: “The greater clarity in the market, around transparent KPIs, disclosure and reporting standards, and what qualifies as a sustainable activity, in particular though the government issuing the UK Green Taxonomy, alongside the development of market standard wording from the LMA, will foster the kind of confidence all market participants need to develop the market for ESG lending in a way that benefits all parties".
The future of ESG
When forecasting what the future might look like the group of experts expects data sets to be streets ahead of where they are today. There is also the suggestion that social value will be reframed in terms of what it covers as it links up with progress on sustainability.
Not only that but one housebuilder points out that the industry will have greater access to best practice case studies in the future, and the ability to analyse what has or hasn’t worked.
Another contributor stressed that the whole supply chain will have a better understanding of the issues, and that the education side of the challenge was far reaching. They said: “To be able to trickle that all the way through our supply chain to the point where they're giving us good quality data and we have the whole Scope 3 piece under control is where I envisage us getting to as the biggest target over the next 5 years. Hopefully data and technology will help that as well.”