VX2015: Sustainability Now a ‘Must’ for Development in California

Brad Copithorne: I work for a private company called Renewable Funding. We use a technique called PACE—Property Assessed Clean Energy—to finance green projects for residential and commercial properties. We can do energy efficiency, solar, water-saving projects, and soon seismic retrofits. We can provide attractive financing for projects because the property owner ends up repaying us through their property tax bills.

PACE uses a technique that’s been in place for about a century, where a group of residents historically has voted to say they want new sewers or schools, and puts an assessment on their property tax bills. Because it’s for the public good, the county agrees to collect those property taxes over time from whoever is in that specific district. A law passed a few years ago, which has been updated a number of times, basically allows us to do this for green projects through a similar process. 

I run the commercial PACE program at Renewable Funding, which we think is going to be particularly exciting this year. We spent a lot of time in this conference talking about the great projects that are going to be available: energy efficiency, solar projects, co-generation—things that can save property owners a significant amount of money and improve the comfort of their homes. But if you need to finance them over a fairly lengthy period of time, which most people do, unless you’re a public entity (City of Los Angeles, State of California, or UCLA) or a private entity with investment-grade ratings (Google or Hewlett Packard), you are out of luck. You cannot get 10 or 20 year financing in most cases at a reasonable rate to finance these projects, even though they may make sense. Very few buildings in LA County have investment-grade hosts. So most properties can’t really finance a solar project over 20 years, which is what it usually takes to make the numbers pencil out.  

That’s where we come in. We can be very aggressive in terms of our underwriting. We can do most commercial properties in the State of California. We can finance about 20 years which will provide strong economics for solar projects and provide most customers with pretty significant energy savings. 

We tend to go to market with a channel strategy. We will talk directly to property owners, but mostly we’re working with solar developers, energy efficiency developers, and co-generation developers.

PACE has existed for several years. I joined in August, and we’re in the process of re-launching how we do this. Historically, there were a number of different PACE programs around the state. We tend to cooperate with each other more than we compete with each other. We’ve seen a lot of jurisdictions that opt into multiple PACE programs. LA County runs a pretty good program here for countywide projects, but they’ve had difficulty getting some of their fed support as low as they would like. We very well may end up also operating in LA County, because we’re already in a couple of jurisdictions.

We’re trying to streamline the underwriting process. We are planning that, for many properties, we can make an underwriting decision based on publically available data such as  the assessed value of the property. The benefit of that from a contractor’s perspective is that he knows before he calls up the owner that he’s going to be able to get financing for the property. 

We’re also working to dramatically simplify the process in terms of how we execute the transactions. We’re working to reduce the interest rate and to reduce and simplify the fees. Historically, customers have had to pay seven to eight different expenses and fees, which is not attractive. We’ve cut the number by about half, and put it into a single cap on the closing costs. Customers will see 3 percent cap on closing costs for larger transactions. 

Historically, PACE has only worked for retrofits, but a law was passed this year that allows us to work on new construction. We’re actually in discussion with somebody that is looking to do a $120-million project. We told the developer, “Pick out the green elements of the building. What saves water? What saves energy? Do you want to put solar panels on the roof? We’ll carve those out and provide you 20-year financing that provides an attractive piece of the capital stack and frankly replaces some of the equity that’s going into the project.” That’s an exciting change.

With solar, we are now able to partner with some people to do third-party PPA structures. That’s really important for a lot of property owners who don’t have the tax appetite. Seismic is also coming very soon.  We’ve got a little bit over $100 million in the pipeline. We expect to have a very busy 2015.

Wayne Ratkovich: Today, it is very hard to finance a project with institutional investors and lenders if you are not addressing the issue of sustainability. If you don’t have that as part of your message when you seek financing, you will have a very difficult time getting it. We are fortunate enough to have some large tenants in our projects: County of Los Angeles is a significant government tenant, Google is a significant private sector tenant, and lots of others in between. Particularly from a large-tenant point of view, if you’re not with it on the sustainability front, they prefer other buildings. It’s not a matter of price—it’s whether you are addressing these issues. There is no choice, in many respects. 

Technology today is absolutely fantastic. It enables us to do things we’d never imagined before. It’s just about everywhere—in our heating, ventilating, and air conditioning equipment; our lighting; our landscaping; our water usage. Technology enables us to reduce our consumption of power and water. Thankfully we have some experts on our team who are able to take advantage of that!

Lew Horne: My expertise has been the workplace—working with occupiers and also in this wellness environment. The sustainability of buildings is part of a broader narrative that is happening throughout commercial leasing. 

In the last 15 years, up to this point, LEED has been on the mind of every developer. Wayne and I might debate this, but for a long time LEED was something developers were afraid not to do. It wasn’t that users were demanding it, because I don’t think users understood what it was. In general, everyone felt that reducing our overall carbon footprint and being more energy efficient were really good things. But when you got down to the specific benefit of a certification of Gold or Platinum, I don’t think a lot of users understood it—or even do now. Today, if you are not certified in one of those higher categories, you’re looked at as someone who is socially unaware and oblivious. 

But I think you can actually fan that dialogue beyond just sustainability. For our global headquarters in Downtown Los Angeles, we invested in a workplace strategy that digitized 250 people so that nobody uses paper. We’re mobile and more flexible so we don’t need all this space. We reduced our footprint by 20 percent, and then we grew by another 20 percent over the course of the last 15 months without any need for expanded space. 

We’ve actually reduced our carbon footprint by reducing our footprint—just through the practical application of having people work efficiently at the clients’, in their cars, on vacation, at their homes, or wherever. We’re now all running around with video cameras and technology that 15 to 20 years ago was unheard of. Today we just need to put that technology into the workplace. 

Let me put it in perspective. (These numbers I’m about to give are directionally accurate but specifically wrong.) In Los Angeles, energy overall to a user is about $3 a square foot. Rent to a user in the office space in Downtown Los Angeles, roughly speaking, is about $30 a square foot. People are about $300 a square foot. Let’s just say we cut our energy consumption in half. It’s a lot, but look at that relative to the occupancy cost of a user. Creating a wellness program around our people is the place where we ought to be investing. 

Certainly rent is going to be fixed. It’s the amenities. You build the right products and put the right amenities in and you’re going to get a premium. If you don’t, you’re going to get punished by occupiers not going to that space. 

In our Downtown office, we invested in circadian-rhythm lighting, cork-based substrates on floors to help with posture, and sit-stand desks for a variety of seating. Just making these investments changed the narrative. People started thinking, “I should be moving around and working more efficiently.”

Cecilia Estolano: Wayne, what’s one of the more exciting projects you’ve worked on that’s driven the edge of technology on sustainability?

Wayne Ratkovich: Sustainability is a part of every project we do. If you don’t have it, you’re out. If you have it, you’re in.

We have a fairly large project in Alhambra—over 40 acres and over a million square feet of office and retail space. In that project, we were the first in Southern California, I believe, to introduce Bloom Boxes—which is fuel-cell energy. We have five Bloom Boxes in Alhambra. They deliver 500 kilowatts of power to us. That installation was a pioneering move on our part. We thought we were the cool guys in town until Caltech came along and put 20 of them up.  But those five Bloom Boxes have taken 25 percent of our power consumption off the grid. For that project, our power consumption is about $2.5 million per year. 

The other thing I’ll tell you about Alhambra has to do with water. We were incentivized by the San Gabriel Valley Water District to engage with them in a program of water conservation, because there are lots of green spaces in this campus. We installed water-saving technologies available today, and the result was striking. We had a 70 percent drop in our water expense on that project. We didn’t do entirely away with grass—we just replaced it with a kind that was less demanding in terms of water. The underground watering system and technology that can sense the need for water helped make that happen. Even at 5900 Wilshire, a 30-story high-rise, we changed the landscaping and irrigation. According to LADWP, we saved 300,000 gallons of water a year. 

Since we rehab buildings, we are often engaged in new heating, cooling, and ventilation systems, as well as lighting and energy-saving devices. Everywhere in the building, we are making dramatic improvements in our electricity and water consumption. It’s working and it’s now a sensible thing to do economically.

Cecilia Estolano: Brad, you mentioned financing for seismic safety. The mayor has convened a task force and brought Lucy Jones on board for a year to advise him on how to make Los Angeles a safer environment for the inevitable earthquake. The mayor has proposed a number of initiatives forcing seismic updates to residential and commercial structures. Are you thinking PACE financing for seismic upgrades? Can you call the mayor and tell him about this?

Brad Copithorne: We have a little work to do before we’re ready to go live. This revolves around what qualifies as a seismic project. 

I’m a bit more familiar with what we’re doing in San Francisco, where there have been mandates on a number of properties to do seismic retrofits, and a lot of property owners don’t have the money to do them. There is no free lunch, but in the near future we expect to be able to provide 20-year financing for seismic retrofits. It goes on the property tax bill. We think we can have a fairly low rate—today’s interest rate will be about 6 percent—and you pay it back with your property taxes over 20 years. Depending on who has the mandates and exactly what the projects are that need to be done, we can do residential, multifamily, or commercial. 

Cecilia Estolano: Regarding sustainability in buildings, are local governments in Los Angeles actually helping to make these projects happen? Are they providing incentives and information? What’s the reality behind the rhetoric from the standpoint of regulations and permitting?

Lew Horne: There are two programs available with the Department of Water & Power called Savings by Design and the Lighting Incentive Program. There are also state-subsidized solar programs. 

The City of LA needs to be cautious because it doesn’t live in a vacuum. The 87 other cities are competing with the City of Los Angeles, and they’re also competing with the 300 other cities in the region. We have to be careful that the City of LA does not move too fast without bringing others along. If all of a sudden we have an onerous retrofit program around earthquakes, somebody can move across the street to Glendale. 

For wood frame buildings, we should go fix them immediately. But there are 1,500 to 2,000 concrete buildings over 25,000 feet in this city alone. Most are leased with 5 to 10 year commitments. You can’t just pull that company out of there, retrofit the building, and put it back in. They’ve got to go someplace else—otherwise the business disruption is too great, they’ll pick up and leave, and they probably won’t come back. 

I’m all for creating a safer environment, but I think there has to be a compromise program here where we’re looking at the age of the buildings. We need some sort of orderly rule, so it’s not happening across the board, overnight, in one fell swoop. 

Wayne Ratkovich: On the issue of safety, those buildings that have been designated will have a drop in value, because work has to be performed on them mandatorily. That’s just a fact of life. How can that requirement be facilitated? I suppose lots of people will be thinking about that. 

One possibility is that property tax relief will enable those building owners to assume that they have the obligation to make those improvements, and the cash flow will not be impacted by it. How practical is it to get a government agency to reduce property taxes? Not very. But that’s what the economics say. 

The other alternative is to provide financing that is very friendly with low interest rates over the long term to property owners who have to go through that. This is very important to address.