By Miki Mitsunari
Although the Japanese government has had pollution regulations on the books since the early 1960s, transaction-driven environmental site assessments are a relatively new development. Back in 1967, rapid economic growth in Japan compelled lawmakers to pass the first legislation to control smoke and soot pollution, followed by similar laws for other types of air and water pollution in 1968 and 1970, respectively. It was not until 2002 when regulators' focus shifted to environmental assessments and remediation with passage of the Soil Contamination Countermeasures Law. Today, Japan is in a new phase of technological innovation with an eye fixed on sustainable development. These trends are driving growth in the environmental due diligence market as well as brownfields redevelopment.
The 1990s and the beginning of the 21st century were times of great change in Japan. During a long recession, the economy was impacted by the Asian financial crisis of 1997, followed by the IT revolution and globalization of Japanese industry. As Japan emerged as a major world trading force, changes in economic focus brought about the relocation of many manufacturing plants. The health and safety issues surrounding this trend are responsible for bringing environmental contamination into focus as well. In addition, U.S. and European financial firms that routinely conduct pre-transaction environmental due diligence have stimulated awareness on the part of businesses and government agencies in Japan. As a result, on May 22, 2002, the Soil Contamination Countermeasures Law was passed by Japan's legislature, the National Diet, followed by the revision of two related regulations. The new legal framework was implemented on February 15, 2003.
The Soil Contamination Countermeasures Law marked Japan's first official site assessment and cleanup law. Prior to this, there was no regulatory enforcement to clean up contaminated soils unless groundwater pollution that potentially poses a health risk to humans was discovered. Under the law, site owners are primarily responsible for the assessment and remediation of contaminated soils, while the "polluter pays" principle is basically applied. Site owners are required to conduct site assessments when specified industrial facilities are closing or changing usage.
One important feature of the law is that it contains a list of 25 contaminants, and corresponding limits for each. If contamination levels exceed the government limits for any of these 25 pollutants, the site is then recorded in the government records, and site owners are required to implement certain measures. Because of these limited targets, only about 130 sites were required to undergo site assessments under this law in 2004 (fiscal year).
Second, Japan amended the Building Lots and Buildings Transaction Business Law, requiring property brokers to disclose during the transaction process whether a property is listed in government records as a contaminated site. Major brokers are now developing more conservative internal rules that require the disclosure to buyers of any activities regarding soil contamination prior to the transaction closure. This is mainly because of the buyers' reluctance to purchase contaminated sites. According to a survey conducted by Japan Real Estate Institute in 2003, 56% of respondents said they would not buy formerly contaminated sites, even ten years after completion of the site cleanup.
Lastly, Japan's Real Estate Appraisal Regulation was also amended in February 2003 to include the presence of soil contamination on a property in the consideration of its financial value. When appraising contaminated site values, appraisers must follow the guidelines developed by the Japanese Association of Real Estate Appraisal, which include environmental concerns.
Driven by these new regulations, the assessment and remediation markets of Japan have experienced much growth since their inception. In principle, a site assessment is required if the property will be used by a large number of people (e.g., retail development, apartment building, amusement park), or if property usage is changing from industrial to residential/commercial usage. Today, site assessments are conducted for most property transactions involving commercial, industrial or multifamily buildings around cities, although there is still no standardized process equivalent to the ASTM E 1527 standard in the U.S. for conducting a Phase I-type site assessment in Japan.
Japan's 2004 assessment and remediation market was estimated at $1 billion, a fraction of its potential $120 billion, by the Geo-Environmental Protection Center, a non-profit organization under Ministry of Environment. Of this total, Phase I and Phase II environmental site assessments accounted for nearly $200 million. The data provided in Figure 1 is based on a survey of member companies conducted by the Geo-Environmental Protection Center. As shown in Figure 1, the number of site assessments (including Phase I and Phase II ESAs) conducted in Japan grew by more than 50% annually in 2003 and 2004 over the prior year. While the number of Phase I and Phase II assessments in 2002 was approximately 2,700, revenues reached levels JPY7.9 billion ($70 million). Fast forward to 2004 when the number of assessments rose to 6,300, and revenues increased to JPY14.6 billion ($130 million). Although the total number of assessments grew 140% over this time period, the corresponding revenue increased by only 85%.
As in the U.S., Japan's Phase I ESA market is becoming competitive, which has driven down the price of a Phase I. Over the three years between 2002 and 2004, the average price of a Phase I alone in Japan decreased, but remains consistent with U.S. pricing, averaging $2,000 to $3,000 at major assessment firms, according to one of the top site assessment firms. Despite a recent influx of new entrants, the environmental site assessment market in Japan is still concentrated among several companies which are primarily owned or affiliated with publicly listed engineering or construction companies.
While the site assessment market has been growing, activity is still only a fraction of total property transactions, estimated at 1.7 million transactions per year for real property ownership in Japan. Of this number, 20 to 30%, or 340,000 to 510,000 transactions, occurred between "non-individuals" (e.g., corporations).
Japan's Phase I and Phase II Environmental Site Assessment Market
To better understand how the Japanese environmental assessment industry works, it is helpful to take into account how it differs from the U.S. site assessment industry (see Table 1.) One critical difference is that Japan lacks a corresponding policy to the federal and state brownfields redevelopment incentives offered in the U.S. While Japan's government continues to focus on compliance, stakeholders involved in property transactions such as site owners, buyers, brokers, appraisers and financial institutions focus on risks beyond the compliance of this law. Accordingly, most stakeholders would not accept any risks for soil contamination. This leads to potentially time-consuming and/or costly assessment and remediation work in Japan's market.
Demand for Phase I site assessments is generally driven by private companies, namely owners of industrial sites and developers, much like in the United States. Though Japan uses the terminology "Phase I" and "Phase II" in the same way as the U.S., there is no standardization of the Phase I process, and the Phase II process is conducted according to a government written guideline. This leads to difficulty in evaluating the professional opinions and quality of Phase I assessments.
It is important to hire reliable and experienced professionals, and since there is no guideline or certified measure of quality for Phase I ESAs, the major firms are widely assumed to be more reliable than qualified, individual environmental professionals. For that reason, corporate clients often choose major assessment firms, and thus, a few major firms have become the dominant players.
Comparison of U.S. and Japan's ESA Market
Only a few years into its history, the Japanese environmental site assessment industry is fundamentally strong and growing. Major changes on the horizon are likely to be:
Over time, site assessments are likely to become more and more prevalent, driven by increased pressure from the government and the use of ESAs for business risk mitigation. As the market becomes more comfortable with the notion of a site assessment, more stability and predictability will likely result.
The author is a chief consultant at Mizuho Information and Research Institute, Inc. This report was published in "ESA Report August 2006 (Environmental Data Resource Inc.)".
