ESG Real Estate Insights 2021 - Deloitte

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ESG Real Estate Insights 2021 Article #1Sustainable Finance Disclosure Regulation(SFDR) in the Real Estate Industry

SFDR in the Real Estate Industry ESG Real Estate Insights 2021Discover the key steps and challenges forreal estate asset managers to comply with the SFDRby March 10, 2021.2

SFDR in the Real Estate Industry ESG Real Estate Insights 2021With buildings being responsible for approximately40% of energy consumption and 36% of CO2 emissions in the EU1, the relevance of SFDR to the realestate sector is indisputable.Regulators, investors, stakeholders andthe public in general are increasinglyholding businesses accountable forsustainable practices. The growingrelevance of sustainability issues is alsodriven by recent legislative developmentswhich reflect the urgency to mitigateenvironmental risks related to climatechange.1 Alternative investment funds (AIFs) andUCITsThe scope of the regulatoryframeworkThe publication of the EU Action Planon Sustainable Finance in March 2018has significantly raised awareness onsustainability issues in the real estateindustry. As part of the EU Action Planon Sustainable Finance, two key EUregulations were published with the aim toprovide transparency and harmonizationto sustainability within financial markets: Pension products, workplace pensionsproducts regulated under the IORPdirective and PEPPs1. The EU Sustainable Finance DisclosureRegulation (SFDR) – also known as theDisclosure Regulation – requires thedisclosure of sustainability-relateddata and policies at entity and productlevel.Certain real estate asset managersand other investment products and/or product manufacturers of real estateinvestments are included in the scope ofthis regulation.The SFDR applies to certain financialproducts and extends to their productmanufacturers and their financial adviserswho are located in the EU:1 Portfolios managed by credit institutionsor investment firms Managers of a qualifying venture capitalfund Insurance-based investment products(IBIPs)Questions have been raised to theEuropean Commission (EC) by theEuropean Supervisory Authorities (ESAs)as a result of consultation processwith major stakeholders regarding theapplicability of the SFDR to non-EU AIFMsand registered (also referred to as subthreshold) AIFMs. These questions are stillunanswered as of the date of this article. Itis, however, the market’s view that subthreshold AIFMs are excluded from thescope of SFDR and that non-EU AIFMs thatmarket AIFs in the EU must comply withproduct-level disclosure requirements.The SFDR consists of the followingmeasures: Regulation (EU) 2019/2088 (SFDR)(also referred to as “Level 1”)– sets outthe framework principles to establishharmonized transparency ruleson sustainability risks and adverseimpact on sustainability factors. Theseprinciples are applicable from March 10,2021. The newly published RegulatoryTechnical Standards (RTS) (also referredto as “Level 2”) – supplement level 1with greater details, clarifications andstructure. The RTS specify the content,methodologies and presentation ofinformation in relation to sustainabilityindicators and the promotion ofenvironmental or social characteristicsand sustainable investment objectivesin pre-contractual documents, websitesand periodic reports. The RTS will comeinto force from January 1, 2022 (seeprevious regulatory news).This means that, until the more detailedRTS will apply on January 1, 2022, theSFDR compliance will be more qualitativeand “principle-based”, leaving managerssome time to adapt and build up theirsustainability strategy for the morestringent requirements coming in 2022.2. The Taxonomy Regulation 2020/852has already entered into force, withmost of the requirements beingapplicable starting from January 1,2022, and requires that economicactivities considered environmentallysustainable are to be defined andclassified so that the degree ofenvironmental sustainability of aninvestment can be determined. ThisTaxonomy thus provides investorswith guidance on which activitiesare environmentally sustainable andwhich are not. It is aimed at preventing“greenwashing” and ensures asystematic and comparable approachto environmentally sustainableinvestments.European Commission: New rules for greener and smarter buildings will increase quality of life for all Europeans, April 2019.3

SFDR in the Real Estate Industry ESG Real Estate Insights 2021The SFDR disclosure requirements byMarch 10, 2021 in a nutshellThe respective disclosures that shouldbe made on the website of the entitiesin scope and the pre-contractualdocumentation of the products theymanage can be summarized as follows:Website disclosures: Corporate level(Articles 3–5) Describe how sustainability risks areintegrated into the investment decisionmaking process and remunerationpolicies. Either:– publish a statement on the due-diligence policy relating to the “principaladverse impacts” (PAIs) – deleteriouseffects of investment decisions onenvironmental and social criteria,– or publish clear information on whyit is not doing so. (Referred to as the“comply or explain” approach)However, from June 30, 2021, firms withmore than 500 employees will not have a“comply or explain” option anymore andmust disclose their PAIs on sustainabilityfactors and summary of engagementpolicies on their websites. Of the 18mandatory principal adverse sustainabilityimpact indicators, two are specific to realestate.Pre-contractual and websitedisclosures: Fund level (Articles 6–11) Describe how sustainability risks areintegrated into the investment decisionmaking of the product funds. Either:– articulate the impact of these riskson the return of all of their products,including those funds that do notpromote any sustainability factor,– or explain why the sustainability risksare not relevant to the fund.4 For products that promoteenvironmental and/or socialcharacteristics (“Art. 8 products”)and those which have sustainableinvestment as their objective (“Art. 9products”), disclose how thesecharacteristics or objectives are metand provide information on any indexdesignated as a reference benchmark.Further disclosures are required inthe annual report and website fromJanuary 1, 2022 relating to the extent towhich the environmental and/or socialcharacteristics of the fund are met (forArt. 8 products), information on the overallsustainability impact of the fund (for Art. 9products) and environmental objectivesand other supplemental disclosures underthe Taxonomy Regulation.From December 2022, managers mustalso disclose in the fund prospectuswhether and, if so, how, they considerprincipal adverse impacts for each of theirfunds. If the managers do not do so, theymust explain for each fund the reasonswhy they do not consider principaladverse impacts to apply.SFDR opportunities and challenges inthe real estate industryThese regulations create bothopportunities and challenges for realestate asset managers: Opportunitiesfor product differentiation, not only inrelation to the environmental aspect butalso with respect to the social impact ofreal estate projects on people, particularlylow-income and vulnerable populationsin need of support and stability; andchallenges, when it comes to real estateasset data gathering to meet thesedisclosure requirements and in identifyingthe necessary resources and expertisefor effective integration of sustainabilityrisks in their due diligence policies andprocesses.Along with the real estate asset managersthere is an ecosystem of investors,financiers, partners such as propertyand facility managers, as well as externalproviders of real estate products suchas project developers and suppliers ofbuilding materials that constitute the realestate value chain. Although the SFDRdirectly impacts the real estate assetmanagers, reporting and transparency inrelation to sustainability must be achievedalong the entire length of the value chain.The impact of sustainability risks isdetermined not only by operatingreal estate properties, but also bythe investment strategies and fundmanagement activities. Fund and assetmanagers must interact closely withthe operating participants of the valuechain in order to face the challengesof data gathering and sustainabilityimpact measurement and meet thenew disclosure requirements. The SFDRcreates expectation from every playerin the real estate value chain to supportthe funds’ product differentiation andsustainability strategies in their ownpolicies and operating practices.As noted earlier, two of the 18 principaladverse sustainability impact indicatorsto measure the PAIs are specific to realestate. One indicator is the exposure tofossil fuels through real estate assets,measured as the share of investmentsin real estate assets involved in theextraction, storage, transport, ormanufacture of fossil fuels. The secondindicator measures the exposure toenergy-inefficient real estate assets.Real estate asset managers will have tolook for the appropriate resources andexpertise to be able to measure theseindicators and comply with the regulation.The lack of consistent and comparabledata across countries for benchmarkingbuilding performance and setting suitablethresholds for the top performingbuildings represent a challenge for therequired measurements.

SFDR in the Real Estate Industry ESG Real Estate Insights 2021Disclosing the due-diligence policiesrelating to PAIs will be mandatory for firmswith more than 500 employees startingfrom June 30, 2021. Another challengeresides in the interpretation of this aspectof the regulation and what criteria willhave to be used to determine whether areal estate asset manager falls within the500 employees threshold.As highlighted in a survey conducted byDeloitte at the end of 2020, in the comingmonths, real estate asset managers willhave to redefine their internal processesand governance to effectively transformmere compliance to regulation intostrategic management. Examples of thetransformations include the fact thatthey will have to strategically choosetheir product categorization with respectto sustainability by drawing a “SFDRroadmap” in both the short and the longterm. The SFDR roadmap and monitoringof the product categorization will becomepart of the new operating model of realestate asset managers.ContactsFrancesca MessiniDirector – Sustainability LeaderDeloitte Luxembourgfmessini@deloitte.luStefania ManginiSenior Manager – AuditDeloitte Luxembourgsmangini@deloitte.luDario ZambottiDirector – AuditDeloitte Luxembourgdzambotti@deloitte.luThey will also need to identify the datastream they will use and determinethe appropriate scoping, analysis andreporting. The data gathering processfor financial data is already a challengeconsidering the diversification of the realestate asset locations and numerous datasources inherent to the data flow – and anefficient data gathering process will surelyremain a challenge for non-financial dataas well.It is therefore essential that real estateasset managers react quickly to face thechallenges raised by the SFDR.5

Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited (“DTTL”), its global network of memberfirms, and their related entities (collectively, the “Deloitte organization”). DTTL (also referred to as “DeloitteGlobal”) and each of its member firms and related entities are legally separate and independent entities, whichcannot obligate or bind each other in respect of third parties. DTTL and each DTTL member firm and relatedentity is liable only for its own acts and omissions, and not those of each other. DTTL does not provide servicesto clients. Please see www.deloitte.com/de/UeberUns to learn more.Deloitte is a leading global provider of audit and assurance, consulting, financial advisory, risk advisory, tax andrelated services; legal advisory services in Germany are provided by Deloitte Legal RechtsanwaltsgesellschaftmbH. Our global network of member firms and related entities in more than 150 countries and territories(collectively, the “Deloitte organization”) serves four out of five Fortune Global 500 companies. Learn howDeloitte’s approximately 330,000 people make an impact that matters at www.deloitte.com/de.This communication contains general information only, and none of Deloitte GmbH Wirtschaftsprüfungs gesell schaft or Deloitte Touche Tohmatsu Limited (“DTTL”), its global network of member firms or their relatedentities (collectively, the “Deloitte organization”) is, by means of this communication, rendering professionaladvice or services. Before making any decision or taking any action that may affect your finances or yourbusiness, you should consult a qualified professional adviser.No representations, warranties or undertakings (express or implied) are given as to the accuracy orcompleteness of the information in this communication, and none of DTTL, its member firms, related entities,employees or agents shall be liable or responsible for any loss or damage whatsoever arising directly orindirectly in connection with any person relying on this communication. DTTL and each of its member firms,and their related entities, are legally separate and independent entities.Published 03/2021

to measure the PAIs are specific to real estate. One indicator is the exposure to fossil fuels through real estate assets, measured as the share of investments in real estate assets involved in the extraction, storage, transport, or manufacture of fossil fuels. The second indicator measures the exposure to energy-inefficient real estate assets.

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