Climate risk, resilience, and REITs: San Francisco
Part 1 of a series of blogs on what REITs should consider when selecting cities to invest in.
Cities across the US are responding to continued urbanization and increased climate risk by assessing climate change impacts and enacting adaptation policies. These policies will minimize risks due to natural disasters, raise taxes unless external sources of funding are identified, and result in building code changes. As a result, these policies will also have an impact on annual financials for real estate investment trusts (REITs) and should be considered when expanding REIT portfolios.
REITs should complete a holistic cost-benefit analysis to determine the net change in lifetime costs due to changes in taxes, utilities, insurance premiums, design, and construction costs. Evaluating the net change in costs due to climate change can create value in financial planning, expansion strategy, and risk management.
Each city will require a separate analysis. San Francisco has completed a risk assessment, identified adaptation measures, and evaluated funding mechanisms. This is not true for all major cities in the US. In this series of blog posts we will evaluate where various cities are in the adaptation planning process and how the stage of progress and planned policy changes will impact REITs.
San Francisco’s Policies that Impact REITs
San Francisco in particular is ahead of the curve in assessing risk, identifying opportunities for adaptation, and developing policies to enact those solutions. In February 2020, San Francisco released a Sea Level Rise and Vulnerability and Consequences Assessment. In it the city identified areas most at risk of coastal flooding (see below). The area at risk of inundation from temporary or permanent flooding by 2100 has been named the Sea Level rise Vulnerability Zone. This region, which covers about 6% of the city’s area, includes portions of the Financial District, SOMA, Mission Bay, Dogpatch, and Hunters Point. It is home to more than 37,000 people, 170,000 jobs, and a host of vital infrastructure.
San Francisco has a detailed plan to minimize the risk of sea level rise. The plan includes:
Source: San Francisco 2020 Sea Level Rise and Vulnerability and Consequences Assessment
Requiring sea level rise to be considered in infrastructure projects.
Pairing managed retreat with wetland restoration, habitat restoration, and pollution-removal projects.
Repairing the seawalls and creating a more sustainable and resilient waterfront.
Elevating new buildings and streets 3 feet above current 100-year flood elevations, with development setbacks, and drainage improvements.
Incorporating mitigation and adaptation measures into building codes.
San Francisco plans on funding these projects using the following mechanisms.
A $425-million General Obligation Bond backed by property taxes with a higher tax on waterfront properties.
Pursue local, state, federal, and private funding sources to fully subsidize infrastructure improvements anticipated to cost up to $5 billion.
How REIT’s Should Respond
What does this mean for REITs with properties in San Francisco or planning to invest in the Bay area?
The policies enacted will minimize risk to REITs and potentially reduce insurance premiums. Private insurers have already started to raise rates for properties in regions at risk of storm surges. As cities enact policies to minimize climate risk it is logical to assume the insurance rates will respond. Some insurers also have “green” incentives that promote mitigation strategies that may provide models for adaptation incentives offered in the future. REITs should quantify the lowered risk with tools such as PEMTO (peril mapping and technology offset), and proactively communicate these estimates to insurers and reinsurers.
Taxes and utilities will go up. Local and state taxes will go up in order to pay for the adaptation measures needed. This means property taxes for REITs are likely to increase. REITs should plan for the added expenditure and at the same time seek to offset some of the increases by monetizing the benefits of its adaptation investments to the surrounding buildings and neighborhoods. One area ripe for such monetization is on-site stormwater management benefits to municipal wastewater treatment. One program that San Francisco REITs should draw the city official’s attention to is the Philadelphia Water Department's Green City, Clean Waters program.
Building codes will change. San Francisco plans to incorporate flood protection and weatherproofing strategies into the building codes. Additional climate mitigation strategies such as Zero Net Energy standards and green roofs will likely be incorporated into building codes as well. REITs that own properties in San Francisco should evaluate weatherproofing coatings developed by companies such as Aculon and NanoTech coatings, green roof systems developed by companies such as Colombia Green Technologies and XeroFlor. Climate Resilience Innovations Tracker (CRIT), a global database developed by Two Degrees Adapt covers 500 innovative companies across multiple perils, including the above mentioned companies.
Development costs may go up. In order to minimize flood risk new construction practices will need to be deployed. Until the new construction practices and materials become the norm there will likely be an increase in cost while the industry catches up. REITs should explore working with city governments to secure funding for proof of concept projects from government and philanthropic sources such as FEMA Hazard Mitigation and Kresge Foundation.
Questions or comments? Contact us at info@twodegreesadapt.com.