Green office conversions: a challenge for smaller managers

Sustainable office properties are gaining favor with tenants, but financing the conversions remains difficult for small- and mid-market owners.

Office properties that can offer green features are commanding premium rents and better loan pricing. But completing these conversions may be a bridge too far for small- and mid-market owners.

Eric Brody, managing partner at the New York-based developer and lender ANAX Real Estate Partners, has observed a bifurcation between public or large-scale real estate companies and their smaller counterparts around the ability to implement sustainability upgrades for office portfolios.

This need to upgrade properties is being caused by a confluence of factors, including greater interest from occupiers to rent space in low-carbon properties as well as New York’s recently implemented Local Law 97, which aims to significantly reduce the carbon footprint of the city’s largest buildings, Brody says.

While large, well-capitalized companies can take the financial and development risk around sustainability upgrades, smaller managers are facing a much more difficult road, in part because of the high cost of capital today, he adds.

“[If these owners are] already having trouble with the cost of capital, [it will be] very hard for them to pay attention to those materials and items that are relevant in the ESG aspect to their projects. I’m seeing it at the top, [but] I’m not seeing a bottom-up movement yet. So, to me, it has not penetrated in the mid-markets.”

The green shift

New York’s Local Law 97 went into effect at the start of 2024 with the aim of limiting carbon emission for the largest properties, many of which are offices. The city is not alone in this push, market participants tell Real Estate Capital USA.

There is a connection between sustainability in the office sector and the ability to lease space. Many of the top occupiers in office markets tend to have ambitious net-zero targets, says Paulina Torres, research manager of sustainability and ESG at Chicago-based advisory JLL. The firm also found such occupiers make up over 70 percent of the leased footprint across the top 100 occupiers in markets like New York City and Paris.

“More corporates have made carbon commitments, and they have ambitious targets of net zero by 2050, or 50 percent reduction [of carbon emission] by 2030,” Torres says.

“They will have to look for space that’s not just sustainable in terms of its design and construction but also in terms of building performance.”

A JLL report released in late 2023 found a significant gap between expected future demand for low-carbon offices globally and the existing supply. In the US, this translates into a shortage of about 75 percent of what office occupiers are expected to need in the coming years.

“If you [not only] look to obtain a green certification but look to make these energy efficiency improvements a feature of your building, you can use that to differentiate your assets and also attract tenants who have these carbon commitments,” Torres says.

The lending angle

One of the challenges for all sponsors is the relative paucity of green financing in the US, where the market remains shallower than in the UK and other parts of Europe.

Lenders can, however, offer incentives for sponsors meeting sustainability targets, while more than 30 states provide low-cost Commercial Property-Assessed Clean Energy loans designed to increase resiliency of an asset.

Jackie Bowie, managing partner and head of EMEA at Kennett Square, Pennsylvania-based Chatham Financial, has observed a subtle shift in lenders’ attitudes toward sustainable assets.

“Two or three years ago, you would get lenders putting loans out and [set the] margin at 2 percent. If [the operators] achieved particular environmental targets, which are built into the loan agreement, then the margin reduces to 1.9 percent. So, you get a 10-basis points gift for meeting the threshold,” Bowie says.

As lenders have looked at the long-term prospects of properties, they have also changed the math to compensate for the risks associated with less sustainable assets. “Nowadays, if [the borrower] can be more sustainability- or ESG-focused, [lenders] are willing to provide the loan and charge the margin at 2 percent, but if the property is deemed to be non-sustainable, they may charge more,” Bowie notes. “We’ve seen both traditional lenders, balance sheet lenders, banks, as well as the alternative lenders really focused on the ESG strategy.”

Green premium or brown discount?

JLL has observed a rising premium for green properties, with a commensurate brown discount for assets that do not have a clear sustainability strategy. The firm has also observed a higher proportion of sustainable offices in larger markets, Torres says.

In markets like Phoenix and Austin, where 40-50 percent of the Class A offices are green-certified, the resulting rental premiums are around 10-12 percent.

But in more-established markets like San Francisco and Chicago, where the sustainable Class A office comprises 80 percent of the building stock, their premiums are around 5-6 percent.

“In smaller markets where there is not that much saturation of green-certified buildings, [these properties attain] a higher premium,” Torres adds.

Bowie says that in some established real estate markets, it may be challenging for older properties to catch up with the ESG trend due to the difficulties in conversions. “[There are] properties that are of that sustainability standard [seeing] huge demand, and hence, the rental prices are much higher than you might guess. At the other end of the spectrum, older [properties] are just not meeting the standards of today’s sustainability thresholds.”


The question of sustainability in the office sector will continue to be a factor for owners and occupiers. In addition to more accessible, lower-cost financing, market participants tell REC USA there is a need for a universal framework through which occupiers, borrowers and lenders can assess sustainability.

Chatham Financial’s Bowie cites framework designed by INREV, the European Association for Investors in Non-Listed Real Estate Vehicles, as an example of attempts to explore more common sense regarding the reporting of ESG KPIs.

“It’s providing a framework for real estate to make sure that their ESG goals are completely interwoven into the overall investment strategy, like a governance framework. Within that non-listed real estate sector, across different geographies, you’re starting to see an emergence of some uniformity, but it’s not all the way there.”

Bowie says down to the implementation side, the market expects ESG monitoring to be a quality measurement, as opposed to ticking the boxes through being certified. Also, instead of promoting a blanket sustainability threshold, there have been discussions around imposing tiered standards based on various characteristics of properties.

“What you’re seeing is a bit of a reset of expectations for people to just be a bit more realistic [about] how long it’s going to take to get to net-zero carbon, as a country as well as an industry within real estate,” she adds.