Decarbonizing Buildings with Retrofit

Nearly 40% of global greenhouse gas emissions come from buildings, thus reducing the carbon footprint of buildings is crucial for a sustainable future. We are currently at a pivotal moment in this effort, with increased alignment between government, business, investors, and tenants today. This alignment is driven by a number of factors, including environmental concerns, government regulations, and ESG demand from investors.

U.S. Inflation Reduction Act

The Inflation Reduction Act (IRA) is a groundbreaking climate legislation in the US. It could cut GHG emissions up to 43% below 2005 levels by 2030 with its $370 billion investment in climate and clean energy. Many of the IRA provisions aim to decarbonize buildings, including homes and businesses. The IRA includes $4.3 billion for direct consumer rebates on whole-home upgrades that achieve 20% to 35% household energy savings.

EU Energy Performance of Buildings Directive

The fourth version of the Energy Performance of Buildings Directive, known as the EU's Renovation Wave, aims to increase retrofitting and decrease building emissions by 60% before 2030. National policies are also supporting these efforts — Italy's superbonus scheme reimburses homeowners 110% of the cost of energy-efficient equipment, Germany will ban new fossil fuel heating systems by 2024, and the UK plans to prohibit new gas heating systems by 2025.

The Principal-Agent Problem in Real Estate

A principal-agent issue arises when there is a conflict of interest between the owner (principal) and the person operating the asset (agent). If a building owner invests in retrofitting their building to make it more energy efficient, they may incur significant upfront costs. However, if the tenant pays the utility bills, they are the ones who will benefit from lower energy costs. In this case, there may be a lack of motivation for the building owner to invest in retrofitting.

Embodied vs. Operational Carbon

Embodied carbon refers to the total emissions used to source, manufacture and transport materials used to construct a building. Operational carbon refers to all the energy used in managing and maintaining the function of a building. According to IEA, the buildings and construction sectors are responsible for approximately 40% of global energy-related carbon emissions annually, of which 67% is due to building operations and 33% is embodied carbon.

Retrofitting buildings can help reduce global carbon emissions by up to 5% per year until 2050, which translates to 1.8 billion tonnes of annual carbon. To keep cumulative carbon emissions of the global building stock in check, the annual global renovation rate must increase from the current 1% to 5%, and all new construction must be carbon neutral by 2040.

Energy-as-a-Service and the Market Landscape

Building retrofit services can be included in the framework of Energy-as-a-Service (EaaS), encompassing both installation and asset optimization components. In this case, the service provider designs the project scope, finances the material and construction costs, maintains project equipment, and monitors the performance to validate energy savings. The customer pays back the project costs through a monthly, quarterly, or annual fee for the service received — sometimes referred to as "Retrofit as a Service."

As technology advances, retrofitting buildings for energy efficiency and sustainability is likely to have an even greater impact. Companies that are early adopters of green engineering and performance-management services supporting the retrofit industry may see greater success in the very near future.