Overcoming the stranded assets challenge

With UK legislation tightening and an increasing focus on sustainability from investors, energy efficiency and building performance have never been more important for owners of commercial properties. In our latest podcast Nick Gibb, deputy managing director for the Midlands, alongside Cundall’s Robert van Zyl, discusses the ‘stranded assets’ challenge being faced and how commercial property owners can ensure their assets remain viable long-term.

Firstly, it’s important to understand what is meant by a ‘stranded asset’. Put simply, it’s a property asset that is no longer fulfilling requirements, such as falling short of the required EPC ratings. As such, the property becomes ‘stranded’ as occupiers choose not to renew their lease, for example, turning the asset into a liability for its owners.

This is a challenge facing many property owners, as UK legislation on energy efficiency is tightening and investors are demanding even higher standards as part of their own ESG commitments. Currently, commercial buildings require a minimum of an EPC ‘E’ rating if they are to be let, and this will increase to a ‘C’ in 2027 and to a ‘B’ in 2030, leaving many owners with work to do if their assets are to remain viable longer term. Legally, property owners will not be able to lease their buildings at all if they don’t stack up to these requirements.

A more stringent approach to ESG

More and more we are seeing investors and funds taking a science-based approach to their ESG strategies, which are way ahead of where current UK legislation sits, putting added pressure on property owners to deliver against increasingly stringent sustainability criteria.

For example, many overseas investors don’t believe EPC standards go far enough, opting to use the NABERS method, and this is driving the market and the viability of assets. This could pose a significant challenge for commercial property owners in the UK if they don’t keep up with the international market. The same is true of occupiers too, as business leaders are put under more pressure to deliver against their own ESG targets.

More so than ever, we are seeing better-performing buildings attracting longer leases, lower vacancy rates and offer improved value over those with lesser energy efficiency credentials, making them a more attractive investment. It is a relatively recent phenomenon, but one that is now driving the market with poorly performing properties quickly losing their value – and leaving owners with this issue of stranded assets.

Retaining investment value through energy efficiency

It is crucial that property owners understand how their buildings are performing if they wish to remain investable and attractive to occupiers, and not be left with stranded assets. This will involve appraising ageing stock and assessing the business case for long-term use, looking at how buildings are built, what they’re made from, etc. to inform any development strategy moving forward.

Investors using NABERS are said to be running around seven years ahead of UK legislation, so property owners can’t just rely on meeting EPC requirements by 2030. It’s important for property owners to assess their portfolio in a timely manner to understand the full scope of requirements they will need to meet, and what improvements need to be made towards energy efficiency standards.

There are various ways in which older properties can be improved – from upgrading M&E systems within a building to stripping back to the building’s core and undertaking significant upgrades to façades, insulation, energy sources and so on. Exactly what is required will be driven by development appraisals, but it’s important for owners to consider how they futureproof their property stock to remain competitive.

Read more about our approach to improving energy efficiency and meeting additional wellbeing and sustainability targets at 5 St Philips Place, Birmingham here.

Brindleyplace: a case study

From a development appraisal point of view, taking a back-to-the-frame approach can work favourably as it offers an effective means of creating high-quality, new space without the need for a full redevelopment.

Our recent fit-out and refurbishment at 10 Brindleyplace in Birmingham is a great example of this. The scheme saw the project team consider every fundamental system within the building and make significant improvements. In taking a ‘back-to-the-frame’ approach for this project, there has been a large, embodied carbon saving – some 60% according to a projected 60-year building cycle assessment.

The building, which has combined 8 and 10 Brindleyplace to deliver 212,000 sq ft of commercial space, achieved an EPC ‘A’ rating and is BREEAM Excellent. Despite being an older building, thanks to the works, the space is now representative of a new build and offers longevity.

What can you do to avoid your assets becoming ‘stranded’?

1. Engage with contractors and consultants early

Early engagement with contractors and key consultants is an important part of any property strategy, as it will help inform where a portfolio may require investment and outline potential approaches to works, for instance. Read more about our approach to early engagement here.

2. Undertake a full appraisal to understand your building’s performance and the potential improvement cost

Making improvements to a building can be a time-consuming and costly process, so it’s important to understand exactly what a project might entail – and crucially, what any works would likely mean in terms of return-on-investment. Undertaking a development appraisal on your portfolio will help inform your strategy when it comes to making improvements and the scope of any potential works.

3. Understand key legislative changes and consider investor/occupier needs and behaviours

Legislation around EPC ratings is set to change in the UK, with commercial properties requiring a ‘C’ rating from 2027, further increasing to a ‘B’ rating in 2030 – meaning that many landlords will be required to undertake works to their portfolios over the next three to six years.

Investors and occupiers, however, are making even more stringent demands for their commercial spaces in terms of energy performance. Many international investors require evidence of building performance beyond an EPC – so being able to showcase metrics will become increasingly important for owners. The same can be said of occupiers too, so it’s crucial for property owners to assess their market and understand what changes may be necessary to remain competitive and investable.

4. Consider scope of improvement works

There are various ways of making improvements to a building’s performance, depending on the scope of a particular project. For example, a landlord that needs to increase their property’s EPC rating score by one grade may be able to do so simply by adjusting the building’s M&E, whereas meeting EPC ‘A’ standard could require more substantial intervention to a building’s façade, for instance.

A particularly important consideration is understanding the full programme of works required to get a building to an EPC ‘B’ by 2030. Although making small incremental changes will minimise occupier disruption and spread costs, ultimately, it will cost building owners more this way. If more substantial interventions were required in the long term, any short-term changes could be redundant in as little as two years, making the spend waste.

A property owner’s requirements will inform what works should take place, but it is important to consider a range of different approaches. For example, if significant improvements need to be made, it might be more cost-effective to consider a back-to-the-frame approach over a demolition process.

If you are considering your property portfolio and want to find out more about the stranded assets challenge and how to avoid it, please get in touch to find out how we can help.