Sustainable success: How ESG regulations are shaping the future

Real Estate companies are used to an ever-changing legal landscape, and ESG promises to provide a substantial shake up in the legal and regulatory fields. ESG regulations have gained momentum in the EU, which is looking to promote a system of sustainable development and sustainable success. This rapidly evolving landscape poses a blend of new challenges, and new opportunities. The balance between progress and regulation may be delicate, but the potential for sustainable growth and innovation is immense.

 

Introduction

For anyone who isn’t yet familiar with ESG, it stands for environmental, social and governance and it refers to a set of criteria that measures a company's performance in each of these areas. Over the last few years, these once semi-abstract concepts have been quantified with verifiable actions companies need to take.

The environmental criteria evaluates how a company affects the environment. It can include considerations such as carbon emissions, resource use, waste management and climate change mitigation.

The social criteria assesses how a company interacts with its stakeholders, which includes employees, customers, suppliers and local communities. It can include considerations regarding labor practices, inclusion, human rights, community engagement and product safety.

The governance criteria focuses on the best practices each company should take and the structures to guide a company through their day-to-day operations and decision-making processes. It includes aspects like shareholder rights, transparency in financial reporting, adherence to legal and regulatory requirements.

These criteria have allowed investors, stakeholders and regulators to evaluate companies beyond the traditional metrics and to go beyond financial analysis.

 

Impact of the Directive (EU) 2022/2464

Over the next few years, one of the main talking points regarding ESG, in any EU country, will be the implementation of Directive (EU) 2022/2464, which aims to provide a significant shift towards integrating ESG considerations into corporate governance and access to capital.

The Directive requires large companies that are of public interest, as defined in the Directive, ie credit institutions and insurance undertakings, to disclose detailed information on how their activities affect environmental and social matters. They will do this through a Sustainability Report certified by the Sustainability auditor.

The Directive takes a broad approach on what must be evaluated on these reports, as they must go beyond the company's own activities and must contain information on their whole value chain, even if their value chain goes beyond the EU's borders.

The Directive's priority is to increase transparency and enable investors, stakeholders and the public to make informed decisions based on a company´s performance on the ESG criteria, and their value chain.

 

Impact on the real estate sector

The Directive has not yet been transposed to the Portuguese Legal system, so we're waiting to understand and measure how much impact it will have on the sector. Legislators may have a strict understanding of the requirements set out in the Directive or they may go for a broader approach. As we wait, there are already a series of “opportunities” for the real estate industry in Portugal.

Challenge to become compliant with ESG requirements to obtain capital

The Directive is expected to directly affect credit institutions and insurance undertakings. But this mustn't be understood by the real estate industry as something that doesn’t affect them. As we've noted, the necessity that those companies develop reports that disclose the impact of their value chain means they'll probably have stricter requirements on who they choose to do businesses with.

The industry will have to adapt and comply with regulations that don’t apply directly to it. This may require the companies involved to gather data on best practices and data on the environmental impacts of their activities, including sub-contractors.

Gathering this data and upgrading reporting systems will likely be burdensome tasks. And many companies will not see a measurable profit in the short-term. Especially considering that it won't be enough to gather the data, putting it into place may look like an even more cost inefficient set of tasks, as it will require operational adjustments to labor practices or community engagement, and changes to which materials are used or how waste is handled.

So it may be unwise to assume that change will be smooth and easy. Quite the opposite. But companies must understand the impact of staying behind the curve, as they may find it substantially harder to get capital, contract insurance brokers or their reputation may take a hit.

Approaching this matter with a worst-case scenario mindset won't capture the complexity of ESG.

An ESG compliant company that takes a proactive approach to be ahead of the curve will become a very attractive business proposal. It will improve the ratings of the sustainably reports of the companies they do businesses with, in turn opening new doors for these businesses, through better rates in financing or better deals in insurance.

If a company wants to make the most out of these challenges, there's no better time to start than now. Recruiting and keeping people with the technical knowledge on carbon emissions mitigation, waste management and efficient use of resources must be a top priority now if companies want to stay ahead of the industry.

In the next few years, that technical knowledge will be an incredibly sought-after commodity and recruiting those talents will become a much harder challenge than it is today.

 

Impact on the hotel industry

ESG has already had a substantial impact in the last few years in the hotel industry. Hotels are investing in energy conservation practices, like transparent walls to make efficient use of daylight. Or they're investing in renewable energy sources as power sources, and water conservation and food waste management practices.

The Directive will only speed up this process. And the hotel industry will have to go deeper into ESG, namely into the social aspect, as safe and fair working conditions will grow in importance. It will also be important to get involved with the local community, especially with local organizations to support education and development of the community.

As new investment opportunities appear, there will be also new constraints. New hotels and resorts will have to think about the impact on the existing ecosystems and the natural environment to comply with increased legal limitations regarding the natural environment surrounding the hotel.

The task for hotels to become ESG friendly isn't easy. It's not just about making one choice. Whenever hotels have multiple options, they have to evaluate the ESG impacts of all of them, giving ESG prominence in the decision-making process. Regarding hotels and resorts, there are specific characteristics, such as a lack of standardization regarding the measures to take on these services, as opposed to construction. So entities that provide green certifications can be important allies.

 

Action plan

There are a series of actionable steps companies can take to become ESG friendly:

• Set clear ESG goals: the first step will be to define specific, achievable and measurable goals. It's important this is the first step companies take to create a pathway to achieving this goal.
• Implement sustainable practices: Invest in energy-efficient technologies, reduce waste and manage the waste produced, adopt renewable energy sources.
• Enhance social responsibility: Foster an inclusive work environment, ensure good labor practices, support employee wellbeing, engage with local communities and invest in social initiatives in the communities where the company works.
• Develop robust reporting: Create a system for collecting and reporting ESG data. Use recognized frameworks.
• Seek third-party approval: Pursue certifications from recognized ESG rating agencies or standards organizations such as LEED (Leadership in Energy and Environmental Design).

 

Conclusion

Directive 2022/2464 will be a pivotal framework integrating ESG matters in EU business, making business reporting move beyond financial reporting and into ESG concerns.

While the initial cost and complexity of operational adjustments may pose challenges, the long-term benefits will outweigh the hurdles and a lack of adaption will come with costs in the long-term. By implementing and adhering to these standards, companies will be able to mitigate risks, enhance their reputation and be met with new opportunities for business and sustainable growth.

Any company that wants to stay proactive and be ahead of the curve must outline a clear action plan that fits the characteristics of their business. If they can implement their plan, it will allow them to navigate through regulatory changes effectively.

Embracing ESG is not just about meeting the current standards. It's about anticipating and staying ahead, while shaping up the opportunities of the future.