What Is ESG?

"Environmental, social and governance," or ESG, has become a controversial subject in parts of the United States. This term is a shorthand description for certain less traditional concepts used in investment evaluation to create metrics that can be standardized and regulated, focusing on several impacts on projects and investments, as well as companies. Use of these metrics is growing both in use and in controversy--ESG requirements worldwide have surged to impact about $30 trillion in equity assets. In general:

• "E" covers energy efficiencies, carbon footprints, greenhouse gas emissions, and other energy-saving and environmentally friendly measures.
• "S" stands for social, and includes labor, wages and benefits, diversity, community relationships, and other human capital and social justice issues.
• "G" includes corporate governance issues, including oversight, risk management, compliance, executive compensation, and lobbying.

ESG Controversy

ESG has been a controversial topic of conversation, primarily relating to its social justice and diversity aspects. However, most of the concepts are much less controversial in their application to investment properties and commercial real estate. It is hard to argue against certain measures involved in saving energy in buildings—some estimates show that "green" buildings may consume 25% less energy and 11% less water than traditional buildings. Rent for green or LEED-certified buildings is about 5.5% higher.

ESG in Real Estate

The "S" factor includes numerous efforts to reconsider a building's use, such as by converting office space into multifamily units or a warehouse into a mixed-use property. It can also include items that have long been thought of as tenant amenities—good lighting, healthy food, and exercise options. A fairly new standard being adopted by some landlords and owners is the WELL Building Standard, which includes guidelines for air, water, food, light, temperature, and community.

The "G" component of ESG, in the context of real estate, focuses at least in part on the management of risk as to extreme weather and planning for ongoing building operations despite disruptive situations. Most property owners are familiar with the increased costs of insurance; property insurance has increased every quarter for 22 straight quarters due at least in part to increasing risk factors.

Anti-ESG Laws and Texas

Even though many of these guidelines are not controversial in the real estate context, some of them are. For example, under the "G", a consideration is adopting corporate social responsibility policies, which can involve increasing diversity and inclusion in the workplace. More than a dozen states enacted anti-ESG laws this year, including Texas. The Texas law went into effect September 1 and limits the use of ESG in the insurance industry. One argument against ESG, particularly in states like Texas, is that the application of these policies can unduly impact traditional fossil fuels companies such as oil and gas. Many of the anti-ESG laws are focused on government or public fund investments, such as choices for state employee retirement funds.

Many of the concepts involved in "ESG" as a real estate concept include very old ideas that have been merely repackaged. Some of the newer ideas will likely be part of a political battlefield for some time.