Harnessing contracts to meet energy efficiency requirements

As we moved towards the first minimum energy efficiency standards (MEES) deadline in early April, it was already clear that a minority of landlords were unprepared – bank BNP Paribas reported that a 10th of inner London’s commercial stock was struggling to meet the new requirement.

Those that did invest and upgrade their assets early on avoided rushing to procure improvements or find an exemption – a situation no one will want to be in when the MEES requirements rise again in 2027.

The new regulations demanded that commercial landlords’ property must have an energy performance certificate (EPC) rating of E or above – with a ban on letting the space and a potential fine up to £150,000 if no exemption applies. Buildings that were not compliant with the new rules became distressed assets, with many landlords looking to improvement works to meet the new minimum EPC requirement.

As the UK continues to push towards net zero carbon emissions by 2050, the pressure from regulators is rising. By 1 April 2025, all non-domestic rented buildings within the scope of MEES are expected to require a valid EPC, and by 1 April 2027, a minimum rating of C. This presents quite a challenge, since only 32% of UK office space hits that mark, according to a recent report from estate agent Carter Jonas.

The same report notes that fewer than one in 10 offices are currently EPC B compliant, the minimum proposed for 2030. Equally concerning is research from bank Handelsbanken that shows 44% of UK landlords felt they were only moderately familiar with the proposals.

This matters because as the rating base ratchets up, quick wins to improve energy performance will be harder to find. That means greater intervention in existing stock and more onus on the design, engineering and contracting supply chain to build confidence that investment will achieve the energy performance required. Here, contracts are a valuable support.

Well-drafted improvement works contracts can trigger discounted funding cost, provide assurance over the results and reduce risks, ultimately, helping landlords secure return on their investment.

Financing MEES

Financing improvements through an ESG investment loan is likely to be attractive to many landlords, with a growing market for lending linked to sustainability performance measures, such as EPC ratings for the built asset, and sustainability methods for construction and improvement work.

Careful tailoring of construction contracts can alleviate the burden, and incentivise delivery in line with the funding requirements.

However, these products come with a strict burden to prove that sustainability benchmarks are delivered. This means that if the construction process fails to achieve the key performance indicators written into loan agreements, including the targeted EPC rating, it could result in funding discounts being lost and increased finance costs. This is in addition to potentially falling foul of fines related to MEES criteria.

However, careful tailoring of construction contracts can alleviate the burden, and incentivise delivery in line with the funding requirements.

Specific obligations at project milestones such as practical completion, alongside financial triggers and incentivising outperformance, are useful when supported by effective contract provisions. So is tracking the specifics of the build, to generate the evidence that sustainable funding benchmarks are met and identify adjustments which may be required.

An emerging influence here is AI, which is already assisting reporting of performance against sustainability benchmarks and may soon generate them, ensuring they are viable.

Managing the risks, seizing opportunities

While contracts can help incentivise results, they also need to be clear and enforceable, and must account for potential commercial effects. A clear allocation of the risks of the works not achieving the required EPC rating is the best starting point. Part of this is providing a mechanism to avoid disputes about how any shortfall in performance is to be rectified and paid for.

This can be addressed in the procurement process, before contracts are signed. By reflecting the details of delivering MEES through the tendering, there is the added benefit that prices can be analysed robustly and potentially identify exemptions which may apply, such as the seven-year payback (when the costs of improving aren’t balanced by energy savings within seven years).

>>Also read: Sustainability: Estate decarbonisation

>>Also read: What the government’s commercial non-domestic EPC B pledge means for real estate

Factors including emerging technology, fluctuations in energy prices, and changes in how energy efficiency is measured not only affect works costs, but also the achievability and meaning of EPC requirements. The widely used base-date system in the JCT suite of contracts accounts for these to an extent. However, astute negotiation and contract drafting is required to manage the existing risks, changes to the benchmarks and also to capture the potential benefits.

A long-term investment

Though many commercial landlords see the ongoing rise in MEES as a source of risk and cost, at least in the short term, ultimately there are also benefits to be captured. Value can be added by making the finished building more attractive to occupiers, and sustainability measures and futureproofing are an increasingly important consideration for purchasers. The regulatory requirement to improve energy performance – and to prove it – is gathering pace, and owners and investors will be looking at the MEES challenge holistically.

Navigating these requirements requires commercial planning, creativity and confidence in the contracts which govern the delivery of the finished asset.

Ashley Pappin is a senior associate at Winckworth Sherwood