The Effect of Energy Efficiency Investments on Property Value
Reducing your development’s utility consumption obviously improves your building’s available cash flow, putting more money in your pocket each month. But what are the bigger implications for the value of your property in the market?
Let’s take a sample development:
- Located in the Northeast
- Consists of five buildings, each with 10 apartment units
- The average rent is $2000/unit, so the development has a gross rent roll of $1.2 million/year
Deducting for vacancy and credit losses, maintenance, taxes, insurance, and other standard operating costs using some typical percentages (but not yet accounting for utility expenses or debt service), we are left with an operating income of $876,000/year.
Now here is where this gets interesting. Using actual information being tracked by WegoWise and the benchmarks we can generate, we know that on average:
- A development this size spends about $78,000/year on utilities expenses
- A poor performing development spends $150,000/year on utilities expenses
- The best performing development spends a mere $37,000/year on utilities expenses
Compared to high efficiency buildings, a typical development spends more than twice as much on utility expenditure and a poor performing development spends more than four times this amount! Reducing your property’s utility consumption obviously improves your building’s cash flow.
What kind of savings can you expect and what does this mean for the overall value of your portfolio?
While the cash flow improvement already provides substantial incentive for undertaking efficiency improvement measures, an even more compelling argument can be made when we look at how the improved operating income translates to higher property values. A standard approach to real estate value calculation is through the use of capitalization rates (Property Value = Net Operating Income/Cap Rate). The Cap Rate varies under different market conditions and is essentially a quick way to gauge investor demand for a particular set of cash flows. Assuming a modest cap rate of 8%, we see that the development’s value can shift dramatically as a direct function of its utilities expenses.
Applying the capitalization rate equation above we can see that ...
As can be seen from the above analysis, the high performing property is worth approximately $1.4 million higher than the worst performing one. In a future blog post, we will dicuss how utility savings also can affect a property's financing options.
Still think efficiency improvement is only about saving the polar bears? Track your building’s utility consumption and see how much money you can put in your pocket.