Sustainability and carbon emissions are likely to become increasingly regulated over the coming years.
If private-sector actors are to enthusiastically comply with the spirit as well as letter of such law or regulation, it will need to become a business imperative for them – in other words hit their bottom line.
The first way sustainability hits the bottom line in the construction sector is in the tendering process. More and more buyers insist that suppliers meet ESG criteria. The challenge is to capture sufficiently accurate data to provide evidence of compliance. Innovative young businesses such as Qualis Flow are doing this by enabling developers and contractors to collect and analyse data and more easily secure certification by recording deliveries and flag up non-compliance.
Sustainability data capture also hits the bottom line by identifying waste, including that caused by time and cost inefficiencies. By identifying weak links, developers and construction firms can operate more scientifically and drive down their overheads more effectively.
ESG-metrics can also hit tenants’ bottom lines and we are seeing a trend towards linking ESG-metrics to smart leases that enable the automation of various contractual components, including negotiation and lifecycle management.
A number of breakthrough technologies have been developed over the past couple of years and their adoption by real estate clients has increased as companies seek to reduce the administrative burden and costs of maintaining contractual relationships with multiple third parties.
Encouragingly, innovative organisations are turning to smart leases linked to certain ESG metrics as part of their business model. Such smart leases might include provisions that increase or discount rents based on carbon emissions attributable to a tenancy or tenant’s broader carbon footprint.
Two converging technologies often underpin ESG-linked smart leases: the Internet of Things (IoT) and distributed ledger technology (DLT). The IoT is growing exponentially – it has never been cheaper to collect data – and many of the scalability issues that once restricted DLT have been addressed. IoT devices can write ESG-related data to DLTs, which can record data points in such a way so as to be essentially tamperproof. The trust this brings enables counterparties to automate their contractual arrangements, thus reducing their transaction costs.
MDRxTECH, Mishcon’s digital transformation business, designs and builds impactful products for clients, including smart leases. It works closely with our real estate lawyers to ensure compliance underpins everything we do.
‘Green loans’ linked to the borrower’s ESG performance are also becoming more common. In September, CLS Holdings secured a £154m long-term green loan with Aviva Investors offering a 10 basis-point margin reduction if sustainability targets are met. There is a clear incentive to uphold good sustainability practices if preferable finance depends on it. We expect to engineer more smart contracts in which ESG metrics and ‘green covenants’ are automated.
Aligning incentives will be crucial if we are to tackle the climate crisis. Clients’ increasing focus on ESG in the context of smart leases and contracts, as they seek to tie the bottom line to good sustainable business practices, is heartening.
Tom Grogan is head of MDRxTECH and co-lead of the blockchain group at Mishcon de Reya