ESCP EUROPE
BACHELOR THESIS
Thesis submitted in partial fulfilment of the requirements for the degree of
Bachelor in Management
Sustainable Investing: The evolution of ESG and its
impact on Corporate financial performance
Thesis Supervisor: Prof. Franck Bancel
Author: Leonardo Peretti
Abstract – English
The objective of this paper is to assess the existence and extent of ESG
investing impact on sustainable and corporate financial performance. It is, in
fact, increasingly common to think that the inclusion of sustainability variables
can have a positive impact on a firm’s returns and reputation. Sustainable
finance is able to generate economic and social value, especially in the long
term, thanks to the use of both financial, environmental, social and governance
logistics in determining investment decisions. In fact, the market has shown that
it can reward behaviour recognised as ethic and virtuous in the three elements
of sustainability: environmental (E), social (S) and governance (G). In this
paper, I will break down ESG into its three components to analyse which one
has the strongest correlation to financial performance metrics of three of the
best performing S&P 500 companies. By analysing the data of these firms, this
study aim at exploring whether large-cap companies that adopted ESG criteria
can show better financial performances. As of now, the evidence is consistent
with the hypothesis that the adoption of good ESG practices is the source of a
long-term competitive advantage.
Astratto – Italiano
L'obiettivo di questo articolo è valutare l'esistenza e la portata dell'impatto degli
investimenti ESG sulla performance finanziaria sostenibile e aziendale. È,
infatti, sempre più comune pensare che l'inclusione di variabili di sostenibilità
possa avere un impatto positivo sui rendimenti e sulla reputazione di
un'impresa. La finanza sostenibile è in grado di generare valore economico e
sociale, soprattutto nel lungo periodo, grazie all'utilizzo della logistica sia
finanziaria che ambientale, sociale e di governance nel determinare le decisioni
di investimento. Infatti, il mercato ha dimostrato di poter premiare
comportamenti riconosciuti come etici e virtuosi nei tre elementi della
sostenibilità: ambientale (E), sociale (S) e di governance (G). In questa tesi,
scomporremo l'ESG nelle sue tre componenti per analizzare quale ha la più
forte correlazione con le metriche di performance finanziaria di tre delle società
dell'S&P 500 con le migliori performance. Analizzando i dati di queste aziende,
questo studio mira ad esplorare se le aziende a grande capitalizzazione che
hanno adottato i criteri ESG possono mostrare migliori performance finanziarie.
Finora, l'evidenza è coerente con l'ipotesi che l'adozione di buone pratiche ESG
è fonte di un vantaggio competitivo a lungo termine.
Abstrakt – Deutsch
Ziel dieses Papiers ist es, das Vorhandensein und das Ausmaß der
Auswirkungen von ESG-Investitionen auf die nachhaltige und finanzielle
Performance von Unternehmen zu bewerten. In der Tat ist man zunehmend der
Meinung, dass die Einbeziehung von Nachhaltigkeitsvariablen sich positiv auf
die Rendite und den Ruf eines Unternehmens auswirken kann. Nachhaltiges
Finanzwesen ist in der Lage, vor allem langfristig einen wirtschaftlichen und
sozialen Wert zu schaffen, da bei Investitionsentscheidungen sowohl finanzielle
als auch ökologische, soziale und Governance-Logiken berücksichtigt werden.
In der Tat hat der Markt gezeigt, dass er ein als ethisch und tugendhaft
anerkanntes Verhalten in den drei Elementen der Nachhaltigkeit belohnen
kann: Umwelt (E), Soziales (S) und Governance (G). In diesem Beitrag werde
ich ESG in seine drei Komponenten aufschlüsseln, um zu analysieren, welche
davon die stärkste Korrelation mit den finanziellen Leistungskennzahlen von
drei der leistungsstärksten S&P 500-Unternehmen aufweist. Durch die Analyse
der Daten dieser Unternehmen soll in dieser Studie untersucht werden, ob
Large-Cap-Unternehmen, die ESG-Kriterien anwenden, eine bessere finanzielle
Performance aufweisen. Bis jetzt stimmen die Ergebnisse mit der Hypothese
überein, dass die Einführung guter ESG-Praktiken die Quelle eines langfristigen
Wettbewerbsvorteils ist.
Table of Contents
TABLE OF CONTENTS ...................................................................................................................1
LIST OF TABLES AND FIGURES .....................................................................................................2
1. INTRODUCTION .......................................................................................................................3
1.1 Definitions ..............................................................................................................................6
2. LITERATURE REVIEW................................................................................................................8
2.1 CSR and ESG............................................................................................................................8
2.1.2 The Environmental Pillar.....................................................................................................9
2.1.3 The Social Pillar.................................................................................................................10
2.1.4 The Governance Pillar......................................................................................................11
2.2 ESG Ratings..........................................................................................................................12
2.3 The Growing Importance of ESG.........................................................................................13
2.4 The effects of ESG incorporation on firm performance.......................................................14
2.4.2 Growing influence of ESG on company profitability........................................................15
2.4.3 ESG across different sectors............................................................................................16
2.5 Evolution of the legal framework.......................................................................................17
2.6 Non-financial reporting and disclosure charges for companies.........................................18
2.7 Relationships between SRI and financial performance……………………………………………………20
2.8 Market-based financial performance……………………………………………………………………….…….21
3.0 METHODOLOGY……………………………………………………………………………………………………….……23
3.1 Research Design ...................................................................................................................23
3.2 Validity and Reliability..........................................................................................................23
3.3 Regression Analysis………………………………………………………………………………………………………….24
3.4 Regression Variables ............................................................................................................25
3.3.3 Response Variables............................................................................................................26
3.3.4 Explanatory Variables .......................................................................................................27
3.4 Data Collection.....................................................................................................................28
3.4.1 Refinitiv .............................................................................................................................28
3.5 Dataset description...............................................................................................................29
4.0 RESULTS AND ANALYSIS......................................................................................................32
4.1 Regression Overview……………………………………………………………………………………………………….32
4.2 ROA regression results…………………………………………………………………………………………………….33
4.3 ROIC regression results…………………………………………………………………………………………….….…34
4.4 ROE regression results………………………………………………………………………………………….………..35
4.5 Total ESG score and financial performance……………………………………………………….……………36
5.0 CONCLUSION……………………………………………………………………………………………………….……….38
5.1 Answering the research questions………………………………………………………………………….………39
5.2 Possible future research…………………………………………………………………………………………………40
List of Tables and Figures
Fig 1……………………………………………………………………………………………………………………………………25
Fig 2…………………………………………………………………………………………………………………………………….30
Fig 3…………………………………………………………………………………………………………………………………….31
Fig 4…………………………………………………………………………………………………………………………………….32
2
1. Introduction
Over the past few years, the importance of sustainability and social
responsibility has grown rapidly. Many events, such as financial crises, the
defence of human rights, workers' health, natural disasters, and other events
related to climate change, are increasingly capturing the attention of investors
and firms who are becoming more aware of the importance of directing their
investments according to ethical, social and environmental values. Before these
events, finance and ethics were two unrelated terms, as sustainable finance was
considered utopian ten years ago, as witnessed by the risky financial products
without moral precepts on sustainable investment that caused the 2008 crisis.
Nowadays, however, their connection is becoming increasingly relevant, as there
is a growing need for sustainability in finance precisely because it can have a
profound effect on the economy and society. (Chouaibi, J. (2021). In this context,
new criteria are being used to assess and promote the sustainability of
investments, such as the integration of social, environmental and ethical factors.
Therefore, profit maximization alone, without adequate consideration of these
factors, no longer meets the needs of the several types of players that operate in
the financial markets. (Boffo, R. Patalano, 2020).
This paper deals with the topic of ESG (Environmental, Social,
Governance) investments and intends to investigate their impact in the financial
corporate and retail sector. In the last years, ESG factors have brought several
innovations in terms of regulation, variety of financial products and investment
strategies. The study of sustainable finance and its effects on the corporate
sector, despite being a very recent topic, is already well developed and presents
several interesting researches. Many of the latter demonstrate how sustainable
finance is able to generate economic and social value over the long term through
the use of both financial and environmental, social and governance logics in
determining investment decisions. The market has shown that it rewards
behaviour recognized as virtuous in the three elements of "sustainability":
environmental (E), social (S) and governance (G) . (Mohamad, ,2020). A strategy
aimed at "sustainability" is therefore able to guarantee numerous advantages,
3
while underestimating these aspects can expose both companies and investors
to different types of risks. At the same time, however, these studies are very
fragmented, which leads to the impossibility of describing these new financial
scenarios in a clear and unambiguous way. (Tensie Whelan, 2020). In fact, the
ultimate aim of this work is precisely to provide an overview of the changes that
ESG factors have brought to the world of finance with a focus on their implications
on corporate financial performance. (Emily Ulrich, 2016)
My thesis will cover various aspects. The questions I will be addressing are as
follows.
1) Is there a correlation between commitment to ESG (environmental, social and
governance) aspects and economic and financial performance?
2) How does ESG factors affect corporate financial performance of the best
performing S&P 500 companies?
3) Which of the three components of ESG (environmental, social and
governance) shows the strongest relation to financial performance?
This thesis, which presents both qualitative and quantitative assessments,
is the result of a careful analysis of publicly available financial and sustainability
reports of three of the best performing S&P 500 companies which have
incorporated ESG in their portfolio.
The goal is to understand whether there can be any economic advantage for an
investor whose main goal is not only that of making the highest return. This is
because it is believed nowadays that the average investor may be more
interested in sustainable investment if it provides extra returns. (Faure, 2021)
Throughout the paper, the information from the reports is supported by empirical
evidence from academic articles or financial studies. The objective is to provide
empirical answers to the macro research questions, by using qualitative analysis
of a sample of reports and a quantitative analysis of the relationship between
financial performance metrics and commitment to sustainability, in the knowledge
4
that, although both research methods have inevitable limitations, they
complement each other and contribute to a better knowledge and understanding
of this kind of financial phenomena.
This approach allows a limited amount of information to be collected and
compared, using standardized tools that allow research hypotheses / main
questions to be tested in a more systematic and objective way.
The thesis is structured in four parts’:
In the first chapter the topic of sustainable investment is presented, starting from
its roots and its historical evolution. After presenting its evolution over time, we
define the current concept of SRI and ESG investment which represent a narrow
view of the general universe of sustainable investment.
The second chapter outlines the eventual pros and cons that corporations or
investors could achieve by implementing these factors in investment choices and
frames the effects on performance in the main global financial markets (US and
Europe). (Matuszewska, Pierzynka, 2021) It also address the controversial
problem of ESG disclosure and false sustainability claims.
In the third chapter, we define the methodology of our quantitative analysis,
explaining in depth the research design approach we adopted in order to structure
this thesis. The data collection method and the details of the regression analysis
we will carry out are found in this section.
The fourth chapter present every step of the final regression analysis and outline
the results that will help us answer the main questions.
The fifth and final chapter provide a conclusion to the analysis of the results and
give an overview of the progress made in the last years in terms of ESG
incorporation and regulations.
5
1.1 Definitions
Some definitions relevant to the thesis will be provided in this paragraph. To
understand how ESG criteria might be applied within a corporate financial
strategy, this thesis will provide the core principles to analyse the connection
between corporate performance and ESG-related activities. Although some of
the principles seem to be identical, they differ in their application and scope.
1.1.2 SRI
SRI (socially responsible investing) involves any investment strategy that
focuses on firms that operate in compliance with the investors' social
expectations/goals, such as addressing environmental and ethical challenges.
Even though return still plays a decisive role in the decision-making process
of most responsible investors, their main goal is to make sure that corporations
are acting in the interests of society rather than just maximising their own
bottom line. There is currently a widespread usage of negative screening in
SRI, a method in which investors avoid firms whose activities cause damage
to the environment or the society. Nowadays, the majority of socially
responsible investors prioritise environmental and social concerns, and they
prefer a more comprehensive approach to sustainable matters, which means
that corporations shouldn't just try to mitigate socially harmful conducts, they
should actively engage in more responsible activities (R. Rajesh, SocioEconomic Planning Sciences)
1.1.3
Environmental, social, and governance (ESG)
An important part of socially responsible investment is the inclusion of
environmental, social, and governance factors. Using the three components of
the ESG framework, investors may assess a company's environmental and
social responsibility. Investors and researchers frequently rely on the ESG
scores to estimate a firm's environmental, social, and governance (CSR)
performance (Boffo, 2020). Environmental, social, and governance (ESG) are
6
three main subcategories of a company's ESG ratings. A company's influence
on the environment, can be referred to as an environmental component.
Examples of this include reducing air and water pollution and minimising the
carbon footprint. The social dimensions of a company include its relationships
with various stakeholder groups. The term "governance" denotes how a
company's leadership deals with the conflicting interests of its many
constituencies and how a successful plan is put into action. According to
Refinitiv official page the components are made up of various variables that
contribute to each area, including human resource procedures, ecological risk
management, and the firm's governance processes, as determined by a rating
agency.
7
2. Literature Review
2.1 CSR and ESG
Corporate social responsibility (CSR) and environmental, social, and
governance (ESG) are defined differently globally and across industries. The
European Commission defines CSR as businesses' accountability for their
social and environmental repercussions. This notion implies that businesses
should bear responsibility for whichever possible harm they could do to the
society. In terms of what to anticipate from businesses, it doesn't provide any
precise instructions, though. The UN (UN official website) expands on
the definition of corporate social responsibility, defining it as a management
concept under which businesses incorporate social and environmental
challenges into their corporate strategy and relations with clients. Therefore,
a company intending to include corporate social responsibility (CSR) into its
management should examine CSR in all parts of its business. The ESG
factor may be used by shareholders to evaluate a company's CSR performance
by quantifying the effect of the three ESG components. Hence, ESG may be
viewed as a sophisticated and quantified version of the relatively broad idea of
corporate social responsibility. However, the primary distinction between these
two key concepts seems to be that CSR focus more on the environmental and
social dimensions of the corporation while ESG also addresses the governance
of the business. According to Belousova (2022), water pollution, greenhouse
emissions, and global warming are examples of environmental challenges, and
the environmental component is designed to make companies responsible for
the environmental problems they create. Likewise, the social pillar
encompasses issues like as equality, civil rights, and working conditions. The
G component is concerned with Corporate Governance. According to
Belousova (2022), governance challenges include bribery, disclosure, and
corporate management. The term ESG will be used throughout the rest of this
work, unless when a differentiation is required, because of the fundamental
similarity between the two concepts.
8
2.1.2 The Environmental pillar
Environmental considerations have an impact on a firm's financial success, but
less visibly than the other ESG components. Environmental elements have
always been viewed as expenses to be reduced, rather than as a basis for
competitive advantage. Rather than being a profit generator, the value of the E
component has been considered primarily from the standpoint of risk
management. Many researchers now recognise environmental advantages,
however they do not result from companies embracing more
sustainable initiatives, but rather from better efficiency in their operations, such
as renewable energy sources being more cost effective and producing less
waste as a consequence (Timmons et al, 2014). In addition, organisations may
embrace more environmentally friendly practises, such as designing more
efficient transport system to reduce the logistics burden and therefore cut
emissions and expenses, better resource usage, recycling of goods, minimizing
manufacturing times, in order to enhance their operational efficiency and
reputations (Zhukova, 2021). Environmental activities improve corporate
valuation by increasing reputation and credibility, particularly when they
challenge perceived unfavourable bias about the industry. When businesses
initiate green initiatives, they are typically reactive rather than preventative,
implying that the initiatives are a response to an existing problem.
Environmental efforts are often well received by the market, particularly in the
consumer commodity industry. But these benefits are typically not
instantaneous and need organisations to follow a long-term approach in order to
maximise returns. Businesses often have an operational incentive to
streamline their sustainability impact, and they are rewarded for their
endeavours in some situations. Certain philanthropic contributions to these
"green" organisations, along with the introduction of certifications, such as ISO
14011, provide the groundwork for future growth and positive excessive returns.
However, certain greenhouse gas reduction plans may result in negative
unexpected returns. Dobler (2014) found a negative correlation between risk
management practices and sustainability performance of some companies,
9
meaning that proactive risk management does not necessarily ensure
positive environmental performance. It is noted by the researchers, however,
that a percentage of the negative correlation can be linked to efforts taken in
response to shareholder concerns after incidents occurred in the past rather
than measures taken to avoid incidents from occurring in the first place.
According to Kim (2019), businesses that enhance their environmental strategic
planning also strengthen the market's view of the firm's volatility in terms of
stock value and price. Because of the decreased risk premiums on stock, the
company's cost of capital would be reduced, which in turn could be a driver of
profitability. He found/ It was discovered evidence for their theory by observing
how enterprises that comply to a greater level of environmental risk mitigation
have lower cost of equity. A crucial factor in addressing the risks that a
bank's credit portfolio faces is the degree of environmental risk. This is due to
the fact that the E component carries a large negative influence that could
affect the value of the bank's portfolio and may result in loan defaults when
firms are confronted with serious environmental concerns (Boffo, 2020). This
compels institutions to conduct further research on the borrowers'
environmental behaviour, pressuring businesses to strictly adhere to their
creditors'/funders' requirements in order to secure favourable rates.
2.1.3
The Social Pillar
Generally speaking, public policies supporting social causes fall under the
scope of the social component (S). A wide range of factors impacting
society well-being are addressed by these social concerns (Chouaibi, 2022).
These organisations work hard to ensure that people get access to public
services, letting them know they are aware of their civil rights, and that they
have a say in how social policies and programmes are designed both at a local
and nation levels. It is also less expensive to carry out financial transactions if
the participants have already tied a social bond, which translates
into lower fees/expenses. Share capital exerts its effect via networks of
data sharing and implementing measures, for instance, it minimizes information
failure and facilitates increased trust and transparency among contractual
10
parties. Additionally, an eventual image loss for breaching existing rules would
be significant, and this fear incentives businesses to fulfill their obligations or
accept greater costs imposed by the other contractual party. Institutional human
capital can influence the cost of capital for corporations, although this impact is
not significant for companies with strong reputations in their own industry.
According to the Fortune official website (2021), the list of the top 100 best
companies for work environment resulted in a favourable stock market reaction,
demonstrating that social investment helps the firm in the equity market.
2.1.4
The Governance Pillar
Governance on the other hand refers to the way a business is run by
its executives. Many investing techniques, such as stock picking and, of course,
ESG investing, include governance as a filtering criterion because it is
generally considered as a competitive factor. Numerous studies have
demonstrated the importance of good company governance. Nowadays, it's
difficult to deny the importance of a good/balanced corporate governance to the
success of a company. When evaluating a firm ’s economic growth, it's
essential to consider its ownership framework and the degree of autonomy of its
board members. (Monteiro, 2021).The profitability of companies with poorer
governance arrangements is significantly impacted by interface difficulties ().
Internal control has a direct impact on investors' expenses, hence organizations
with superior governance should be valued more than those with poor
management. Governance is a key determinant in predicting future stock
returns and volatility. In fact, according to an assessment of corporate
governance carried out by Maher (1999), successful and responsible
businesses did better than their lower-ranked competitors. In addition, Chen
and his colleagues found that corporate governance structures can be
alternatives for government legal support, which shows that corporate
governance can deliver value when shareholders voices are not heard enough.
Moreover, Maher research suggested that investors are ready to pay a premium
(greater in governments with poor investor legislation) for firms with high-level of
governance . As showed in the analysis, it is possible that the relevance of
11
corporate governance may rise in a government whereby there's a deteriorating
regulatory structure for investors' rights. We can assume that corporate
governance can help reduce the risk of takeover and the expenses associated
with risk management, which has an effect on the cost of capital. Certain
actions designed to reduce the cost of debt may jeopardize investors'
interests/rights. If shareholders have stronger rights, they typically have better
stock and operating performance, as seen by excessive stock returns when
compared to companies who have weaker shareholders rights.
2.2 ESG Ratings
Several earlier researches have used ESG ratings as a proxy for a company's
environmental, social, and governance performance. Growing volumes of data
and studies have been collected to evaluate organizations' ESG
performance after the economic crisis, leading to the continuous development
of ESG ratings. ESG scores are a way to assess how well a company's
operations stack up against the three components of ESG. In order to arrive at
the final ratings, a range of factors related to each of the three pillars are
considered. For example, the E component of the Refinitiv ESG score
methodology includes factors like emission levels, whereas civil rights are an
example of a criterion for the S component. Investors, thus, use ESG ratings in
conjunction with other analytical techniques to predict a company's capacity to
be sustainable and responsible in the long term.
Refinitiv's ESG scores (the ESG scores utilized in this thesis) runs from 0 to
100, with 100 representing the highest possible score. We discuss the variables
in further detail
12
2.3 ESG's Growing Importance
The growth of ESG has been accelerated by new ESG-focused measures
adopted following the 2007-2008 crisis, including countries' engagement to the
United Nations' SDGs (Boffo, 2020). Additionally, the European Commission
has published several of the ESG-related laws and launched an
initiative for supporting sustainable development in 2020, with the goal of
addressing emerging problems in the financial industry by increasing
transparency about green investments for asset managers and investors alike.
Because of the aftermath of the financial crisis and the urge for businesses to
be held accountable for the social and environmental effects, reporting of nonfinancial data has emerged, in which formerly distinct ESG and sustainability
issues are now included within certain financial statements (Ulrich, 2016). Since
the turn of the twenty-first century, the notion of ESG has gained in prominence
and popularity. Since 2009, however, this expansion has grown much more
prominent and has progressed at a faster rate. Considering how closely CSR
and ESG are interconnected in terms of measuring company quality and
performance, it seems logical that the rise in significance of CSR practices on a
broad scale will be followed by a rise in the relevance of ESG metrics as well
(Ulrich, 2016). Due to the US and European Union's solid attitude on managing
and encouraging ESG concerns, ESG investments has expanded rapidly in the
main markets, showing the regions’ growing relevance of ESG.
13
2.4 The Effect of Environmental, Social, and
Governance (ESG) on Firm Performance
Studies on the impact of ESG ratings have been conducted in a variety of
circumstances. Past researches discovered that environmental, social, and
governance factors had a beneficial influence on company success (Whelan,
2020). They did, however, define performance in terms of market value of stock
and EPS. Furthermore, they did not discover clear evidence regarding the
influence of particular ESG aspects on company performance. In their analysis,
the social component was the only one that had a statistically significant
influence on business performance when examined on an individual level
(Environmental, Social, and Governance). Nonetheless, when it comes to EPS,
each particular factor has a big effect. Chen (2021) examined the Asian market
and discovered that only Governance had a statistically meaningful effect on
business success, as assessed by Market-To-Book and stock returns.
According to Hamdan (2020) examined the US market and discovered a
positive correlation between company sustainability and Tobin’s Q, indicating
that financial markets appreciate responsible strategies. Lastly, German
research discovered that overall ESG compliance had almost no effect on
business performance as evaluated by ROA. (Velte, 2017).
examining the association between ESG and volatility in European nations were
unable to find evidence that a high level of ESG incorporation had any effect on
risk-adjusted return (Hakan, 2022) . Despite this conclusion, data showed that
high-levels of ESG inclusion minimizes the risks associated with stock returns.
According to the study, ESG adoption improves stock returns by mitigating the
risk of stock price downfalls. Gillan (2021) did a similarly linked study on the US
market, in which they assessed businesses' tendency to implement
sustainability measures and their performance. Companies that
actively embraced sustainability practices were classified as responsible and
sustainable businesses, and their performance was compared to that of poor
sustainable and responsible businesses. The overall conclusion was that firms
with higher levels of CSR and ESG integration outperformed the other
companies over the long term, both on an FCF performance level and on a
market performance level . Over time, ESG related initiatives benefit corporate
14
performance by improving the company's positive perception among the
many market players. This could indicate that the core principles of
the organization culture undertaken by rightful businesses are well-perceived
from investors. ESG strategies are thus implemented by organizations as a
way to improve the company sentiment and reputation among shareholders.
This will eventually have a beneficial influence on how the company's conduct is
seen.
2.4.2
ESG's Influence on Firm Performance Is
Increasing
A company's success depends on its ability to establish good ties with its
consumers and shareholders. Prior studies has shown that ESG investments is
related with increased business growth and profitability, which is particularly
significant for long-term oriented investors (Gillan, 2021). 'Green' bonds and
other ESG-related financial instruments are gaining popularity, indicating that
investors are becoming more ESG-conscious. ESG considerations are
becoming increasingly valuable in the market, as seen by an increase in the
release and incorporation of ESG ratings by institutions. As the
institutionalization of the twenty-first century has progressed, so has the
reporting and regulation of ESG factors (Chouaibi, 2021). In the last ten years
the broader institutional context exerts legal, behavioural, and normative
pressure on businesses to disclose on ESG factors. The implementation of the
norms and regulations discussed earlier, which compel firms to disclose their
ESG activities, is known as regulatory institutionalization . An important aspect
of institutionalization through the ethical pathway is societal pressure to perform
actions that are deemed appropriate in society. Given the correlation between
high-level of ESG reporting and projected ESG performance (), the
incorporation of ESG as a core principle can be connected to accounting/ firmlevel performance. ESG factors have also become extremely important to
financial analysts, as capital markets have done so ever since the recession.
Since financial markets have shifted their focus to environmental, social, and
15
governance (ESG) factors following the global recession, and because ESG
has become more widely accepted by companies and institutions we can
assume that ESG has gained prominence in the many markets and
economies in the last 10 years (Gillan, 2021).
2.4.3
Affiliation with industry and ESG ratings
In spite of the difficulties that corporations have faced in providing reliable and
complete data concerning their sustainable footprint, their involvement in ESG
has been increasing at an astonishing rate. Moreover, the number of S&P500
businesses that recalled/showed esg related earnings/returns quadrupled
between the first two quarters of 2019. Since the beginning of the year, this
upward trend has persisted in the market, suggesting an increase in interest in
environmental concerns (Faure, 2021). There is also an estimate that 15 trillion
dollars will be invested in several ESG vehicles over the next decades,
according to a research by Bank of America in 2019. Furthermore, they
demonstrate that ESG ratings do not reflect stock return in the same way
across all sectors studied. In the long run, corporations gain benefits from this
shift toward more environmentally friendly investments. It's not clear why
leaders are so committed to improving their company's sustainability score.
Greenwashing is possible because it is difficult to distinguish true sustainable
professionals from those who are merely interested in developing ESG issues
for the sake of media relations. Using procedures and strategies that
misrepresent a company's environmental, social, and governance (ESG) image
is known as greenwashing. Although some ESG metrics may have a short-term
positive influence on sustainability ratings, the long-term value of a company
remain unaffected (Bruna, 2022). ETFs have been increasingly popular in
recent years, which has increased the potential of greenwashing because
investors typically fail to thoroughly examine all of the fund's components. One
billion dollars of market value was lost in 2020 due to an indexing error affecting
the Vanguard US ESG Stock ETF and the Vanguard ESG International Stock
ETF. As a result of this oversight, the ETF ended up including a weapons
company. Investors became enraged when these equities remained in both
16
ETFs. Immediately after Vanguard ETFs eliminated these specific shares, the
index provider stated a mistake in the fund's design and refused to speak more
on it. The fact remains, however, that there is a widespread issue with index
items labelled with the environmental and sustainability scores. Investors are
frequently baffled by the ESG ETFs' complicated process. Index providers have
several options to choose from when it comes to creating a fund because of the
absence of standard definitions and measurements concerning ESG (Boffo
2020). There is no definitive solution to the issue of what a portfolio made up of
ESG leaders should look like. Anxieties are raised for investors who want to
know which companies and sectors have the greatest sustainability ratings
since ESG ETFs incorporate shares from ecologically challenging businesses.
There is a common assumption that pursuing sustainability means just investing
in environmentally friendly energy stocks. The social and governance
components of ESG, which companies might use to make up for low
environmental ratings, are mostly ignored by this belief system. For the "E" pillar
of ESG, the focus is on the environment rating and develop a portfolio of
companies that achieve the highest return. As a result, industry participation
might only accounts for a small percentage of the variation in the environmental
ratings of the firms. According to their prior assumptions, a portfolio based on
the "E" criteria would mean a long-term strategy that involves buying green
energy stocks and shorting fossil fuel stocks.
2.5 Evolution of the legal framework
ESG concerns have been reshaped by changes in legislation due to financial,
social and environmental difficulties. Companies must adapt to the changing
legal framework as governments enact new environmental legislation and
product safety requirements, and as global agreement grows on labour and
civil rights matters. Furthermore, the growing number of new standards for ESG
and CSR audits and disclosure may prompt asset managers to rethink how new
regulations could be managed most effectively in order to prevent additional
expenses caused by fines. However, the growing expenses of policies may lead
to the development of new and creative ways to reduce the burden on
17
taxpayers. Such an approach would suggest that companies prefer to comply
with ESG criteria on their own rather than waiting for the government to step in
with a variety of environmental and social taxes, sanctions, or restrictions. ESG
policies are probably being advocated at the expense of businesses reaching
their maximum potential and business expansion, and hence enhanced wealth.
As a result, companies might wish to maintain self-regulation methods to
comply with new ESG laws (Coburn, 2021).
2.6 Non-financial reporting and disclosure charges for
companies.
The focus on sustainability issues and their effect on investments has been
affecting the world of companies along with financial institutions. The focus on
sustainability issues, as well as on investments, has been expanded to include
the world of businesses and financial instrument issuers. Matter of fact, it has
been established in recent years that large publicly listed companies that have
more than 500 employees must include a non-financial statement in their fiscal
year reports. That should include information on the environmental and social
responsibility, civil rights, and the fight against active and passive corruption, to
the extent necessary for an understanding of the company's performance, its
results, its current situation and the impact of its activities on the environment
and society (EFRAG, 2021). For example, we could find:
1. a concise summary of the business model of the enterprise.
2. an explanation of the firm's policy regarding the aforementioned model ,
including any due diligence procedures in place.
3. the outcomes resulting from those policies.
18
4. the primary risks connected with these aspects of the firm's business,
including its commercial relationships, products and services that
might be negatively affected in these areas, and the firm's relevant
management arrangements.
5. non-financial key performance indicators that are relevant to the
enterprise's specific business.
Non-financial enterprises are also required to declare the following:
6. the proportion of their revenue derived from products or services
associated with responsible and sustainable economic activities.
7. the proportion of their capital expenditures and operating expenses
allocated to assets or processes linked with sustainable economic
activities.
19
2.7 Relationships between SRI and financial
performance
Current study suggests that corporate social responsibility involvement and
accounting based financial performance have a slight positive link. We use the
term "accounting-based financial performance" to refer to firm profitability
metrics, such as return on assets (ROA), return on invested capital (ROIC) and
return on equity (ROE). Using data from American firms, Pierzynka, (2021)
found that organizations with a higher ESG inclusion sustainability outperformed
their low-sustainability equivalents in both accounting and market performance
over the long term. Another research from Rajesh (2021), in developing
countries, gathered data from different studies and discovered a favorable
correlation between accounting-based success and financial performance.
Lavorini (2021), in his latest analysis of the luxury market, discovered negative
correlation between ESG score and accounting performance-based
performance. In 2015 , Velte (2017) examined the association between ESG
rating and profitability for German listed companies. According to the findings of
his study and statistical analyses, there is a favorable correlation between ESG
and accounting-based financial success. The study reveals, however, that there
is no link between ESG and market-based financial performance. Additionally,
Velte examined which of the three criteria E, S, and G had the best link with
accounting-based financial performance. Separate components were
incorporated in the regression model. All components had a significant link with
accounting-based profitability, with the largest correlation being the governance
component (G).
2.7.3 Market based Financial performance /dependent
on market conditions
Various researches, summarized in the table below, suggest a small correlation
between corporate social responsibility (CSR) and market-based financial
success. By market-based financial performance, we mean metrics that are
20
calculated using market values, such as stock return or Tobin's q ratio.
However, there are research that demonstrate no correlation. As previously
stated, Velte (2017) discovered no substantial correlation between ESG and
market-based financial performance. As indicated before, Whelan (2020)
published a research in which they synthesized empirical findings from over
1000 prior studies on ESG elements and their impact on financial performance.
The research includes both portfolio-based and company-based studies and
researchers came to the conclusion that there is, overall, a positive correlation
between market-based financial success and environmental, social, and
governance variables . Other studies that analysed the results of several prior
investigations came to the same conclusion (Powaski, 2021). The authors
discovered a favourable association between ESG performance and marketbased financial performance in many of the examined trials. When big nonfinancial enterprises in the United States were examined, a substantial positive
association between corporate sustainability and market-based financial
success was discovered. Additionally, the findings revealed a link between
business sustainability and sales volume growth. Moreover, results showed that
incorporating responsible and sustainable activities increases the value of a
company. In a 2013 research of the Asian market, it was discovered that a
business' MSCI ESG score is positively connected with both stock returns and
Tobin's q. (Kim et al, 2013). This empirical study of Asian listed enterprises
demonstrates that various ESG criteria have varying relationships with marketbased financial success. The governance component had a good correlation
with financial performance, but the environmental factor had a negative
correlation with financial success. The social component was determined to be
neutral due to the absence of a meaningful association. A recent study by
Ahmad (2021) examines the relationship between ESG ratings and financial
success in the United Kingdom. He discovered a small negative correlation,
although only statistically relevant in some parts of the United Kingdom.
However, as they analysed the GRI's (Global Reporting Initiative) underlying
categories, they discovered substantial correlations but only for certain
industries and time frames that were not consistent across the country. In
addition, using a regression, this research showed that the relationship between
financial performance and fluctuations in this news-based ESG scores is most
21
likely not linear. Qureshi (2021) found that there is no correlation between ESG
and financial performance in their study of US stock portfolios, demonstrating
that there is no difference in financial performance between a high-level ESG
portfolio and a traditional or low ESG portfolio. Hale (Morningstar, 2016) found a
correlation between a high Morningstar global score (another sustainability
metric based on MSCI data) and market-level financial success, despite the fact
that investors favour funds and other vehicles with a higher sustainability score.
This conclusion demonstrates that investors are willing to pay a premium on
sustainability, despite the fact that no correlation between high scores with
financial performance has been shown.
22
3. Methodology
3.1 Research methodology and design
Given that the goal of this thesis is to examine the relationship between ESG
rating and corporate financial performance, a quantitative case study research
method appears to be the best fit. In order to carry out the analysis , we
will adopt a case study research design, which implies that our investigation will
look for correlations between possible causes and effects. It is critical to choose
the right empirical data that will ultimately allow of the examined phenomena
when adopting a study strategy. Our assumption is that a higher adoption
of ESG criteria, and consequently a greater ESG rating, translated into better
financial performances (ROA). In order to build our model , we acquired
quantitative data in the form of various financial metrics and ESG scores.
Inductive and deductive research methodology are used to illustrate the
correlation between the dependent and independent variables. Inductive
approaches rely on empirical evidence to determine which theory is relevant. It
may result in the development of new models and concepts distinct from those
from which you began. You will begin by reading and relating your findings to
current theories using a logical method. Given that this thesis's objective is to
assess and complement to current theory, a deductive method seems
appropriate.
3.2 Validity and reliability
We must ensure that our multiple regression analysis includes the data we need
and is capable of answering our research objectives. Internal validity is
concerned with the question of causality. This is critical, much more so for us,
because correlation may readily be confused with causation and vice versa. We
are no trying to establish causative relationships between ESG rating and
financial success; rather, we examine the correlation and seek to determine its
significance. External validity, more frequently referred to as generalisation,
refers to the extent to which the study's findings may be applied to different
contexts and circumstances. Due to the fact that our data set does not cover all
23
US enterprises and just one form of ESG score, the study's limitations in terms
of generalisation must be taken into account when applying the findings to other
scenarios. The quality of information is inextricably linked to its dependability.
Reliability guarantees that studies are done properly, and that the analysis is
carried in such a way that the viewer can trust the outcome. This suggests that
this work's findings must be reproducible in order to be regarded credible.
Because we are utilizing data from a trustworthy platform (Refinitv), we may
consider the data to be accurate. Nevertheless, because ESG scores are
subjective and various financial players evaluate firms differently, the outcome
may not necessarily be the same in case of different types of ESG scores. To
ensure the highest level of trustworthiness, we have attempted to be clear about
every data we used in this model.
3.3 Regression Analysis
We performed a multiple regression model to determine whether there is a
correlation between ESG rating and financial performance (ROA) . Initially, we
conducted a (first correlation) multiple regression analysis, which is an
estimation process that generates statistical evaluations of a
possible econometric interaction obtained/calculated by computing the
coefficients sum of squared residuals. In this thesis , the regression analysis is
used to define the degree of correlation between financial performance and
ESG ratings and to build a model that produces predicted
dependent/response variables (financial performance) that are as close to the
observations as possible for each company in the dataset. The variables
employed in our methods are described in further detail in the following chapter.
Multiple regression analysis necessitates the fulfilment of specific assumptions.
In accordance with Velte (2017), we evaluate if the model fits the criteria of
linearity, normality of residuals, multicollinearity, and residual independence.
Take into consideration that no matter how exact the results are, a regression
24
analysis model cannot establish a causal association between distinct variables.
For instance, a link between ESG and financial success may be depending on
association with an unaccounted-for unknown component. As a result, this
study will focus exclusively on the association between ESG score and financial
success, with no extra causation tests conducted. Following the collection of
pertinent data, the regression model was tested using a number of statistical
procedures and tests to determine the validity of the aforementioned premises..
For data processing and statistical analysis, we used Microsoft Excel. The
model was adjusted based on the publicly available quantitative data and
the subsequent analysis to create the regression model, which is described in
Section .
3.4
Regression Variables
Table contains an overview of the regression variables.
Dependent
Variables
Descriptions
ROA
used to test a company's ability to generate profit from its activities (assets)
used to assess the efficiency of a company in allocating the capital under its
control to profitable investments
it measures the return on the capital invested in the company by the
shareholders
ROIC
ROE
Independent
Variables
Descriptions
Environmental score
(E)
E score provided by Refinitiv
Social score (S)
Governance score
(G)
S score provided by Refinitiv
Tot. ESG score
ESG score provided by Refinitiv
G score provided by Refinitiv
Fig 1: compiled by author
25
3.4.2 Response Variables
We will use three different financial performance measures in order to try unveil
the possible effect of ESG and its three components on corporate financial
performance.
1. The first variable is Return on Asset (ROA), a financial metric already
used in a number of researches which is used to test a company's ability
to generate profit from its activities. It is one of the most widely used
profitability indicators and is essential when choosing which stock to
invest in. In fact, it is thanks to ROA that we can understand whether the
company we are considering is capable of making its assets, or rather its
resources, profitable. (Damodaran, 2007)
Return on Assets = Total Assets / Net Income
2. As second variable, we are going to use Return on Invested Capital
(ROIC), an important financial indicator that is used to assess the
efficiency of a company in allocating the capital under its control to
profitable investments. The return on invested capital gives an idea of
how well a company is using its capital to generate profits.
Comparing a company's return on invested capital with its weighted
average cost of capital (WACC) reveals whether the invested capital is
being used effectively. This measure is also known simply as return on
capital. (Damodaran 2007)
Return on Invested Capital = Invested Capital / Net operating profit after tax
3. Lastly, our third and final variable will be the return on equity (ROE),
which measures the return on the capital invested in the company by the
shareholders. It therefore indicates the ability to remunerate risk capital.
Thus, ROE must at least be sufficient to cover the cost of risk capital.
Thus, in order for the company to be able to generate excessive returns,
the ROE must be higher than the cost of equity.
26
ROE is used to make a comparison, on a historical basis, regarding the
profitability of a company's equity in different years. Relative to the same
period of time, the ROE of a company is compared with that of other
companies in the industry. (Damodaran 2007)
3.4.3
Explanatory Variables
The refinitiv ESG scores and its three components serve as explanatory factors
in this thesis, and as such, they are employed as independent variables in the
multiple regression analysis. The overall environmental, social, and governance
(ESG) performance score will be the first predictor variable. The following
variables will be the three ESG pillars, environmental (E), social (S),
and governance (G) scores. The three pillars are discussed in further detail in
the literature review. Degiro is used to gather all ESG ratings and data. It
is thought that the effect of ESG metrics on CPF will take time to manifest, but
we are still eager to find out if these three companies have already shown a
positive correlation between these variables in the last three years. Either way,
it will be interesting to see how the esg scores and financial ratios of these
companies have changed throughout the last three, disruptive years. We will
display the yearly results in a way that will make the data more understandable.
27
3.5
Data Collection
3.5.2 Refinitiv
According to Refinitiv official website “ESG scores from Refinitiv are designed to
transparently and objectively measure a company's relative ESG performance,
commitment and effectiveness across ten main themes (emissions,
environmental product innovation, human rights, shareholders, etc.) based on
publicly reported data.”
Refinitiv ESG scores reflect the underlying ESG data framework and are a
transparent, data-driven assessment of companies’ relative ESG performance
and capacity, integrating and accounting for industry materiality and company
size biases.
The Refinitiv ESG score measures the company’s ESG performance based on
verifiable reported data in the public domain. It captures and calculates over
630 company-level ESG measures, of which a subset of 186 of the most
comparable and material per industry power the overall company assessment
and scoring process.
The underlying measures are based on considerations around comparability,
impact, data availability and industry relevance that varies across each industry
group.
These are grouped into 10 categories that form the three pillar scores and the
final ESG score, which is a reflection of the company’s ESG performance,
commitment and effectiveness based on publicly reported information.
The category scores are rolled up into three pillar scores – environmental,
social and corporate governance. ESG pillar score is a relative sum of the
category weights which vary per industry for the 'Environmental' and 'Social'
categories. For 'Governance', the weights remain the same across all
industries.
The database is updated on a continuous basis – aligned with corporate
reporting patterns – and data is refreshed on products every week, including the
recalculation of the ESG Scores. Updates could include a brand-new company
being added to the database, the latest fiscal year update or the inclusion of
28
new controversy events. In most cases, reported ESG data is updated once a
year in line with companies’ own ESG disclosure. We refresh data more
frequently in exceptional cases, usually when there is a significant change in the
reporting or corporate structure during the year. ESG news and controversies
are updated on a continuous basis, as and when such events occur and get
picked up by global media (Refinitiv official page).
3.6 Dataset Description
The S&P 500 index and its best five performing companies will be the subject of
our investigation. We examined how these firms' financial performance
metrics have developed during the last three years, from 2018 to 2020. To more
broadly assess the impact of the ESG components, we conducted a
comprehensive statistical analysis of the whole timeframe (3 years). In this way,
we'll try to depict the financial "behaviour" of the five best performing S&P 500
companies, in a period that was characterized by many disruptive global events
(COVID 19, technological progress, etc)
The Standard & Poor's 500 Index, abbreviated as S&P 500, is a market
capitalization-weighted index composed of 505 large-capitalization United
States firms. The S&P index include almost 80% of the market capitalization of
the US stock market. Since it encompasses virtually all of the major stocks in
the United States, it is the most famous and biggest market in the whole
financial world.
Given that the index is weighted by market capitalization, the largest stocks
have a significant effect on both the stock market long-term performance and
everyday fluctuation. The S&P ten largest stocks account for 30 percent of its
market value. This implies that investors need to become acquainted with these
ten massive constituents in order to gain a better understanding of what drives
the larger market. (Gape Albert 2022).
A small description of three of the best performing S&P 500 companies will be
provided in the next paragraph.
29
1. Apple Inc. (AAPL)
Apple is a major producer of hardware and software products, primarily for the
consumer market. Its most prominent product is the iPhone, but Apple also
produces other products including Mac computers and iPad tablets. It also owns
the Apple Music and Apple TV media distribution platforms.
2. Microsoft Corp. (MSFT)
Microsoft is a computer hardware and software company that makes products
for both personal and professional use. A major player in the tech industry for
decades, Microsoft is best known for its Windows operating system, the
Microsoft Office suite of programs, and the Xbox game system. The company
also is a major player in cloud computing services with its cloud platform, Azure.
3. Tesla Inc. (TSLA)
Tesla is primarily a maker of electric cars. It makes more than 90% of its
revenue and virtually all of its profit from its car business, but it also sells solar
panels and batteries for homes and businesses.
Apple Inc. (AAPL)
Year
ESG
E
S
G
ROA
ROCE
ROE
2018
37.40
57.04
65.77
89.30
0.16
0.26
0.51
2019
37.33
57.04
66.49
85.81
0.16
0.38
0.56
2020
39.77
61.03
77.46
88.01
0.17
0.32
0.74
Fig 2: compiled by author
30
Microsoft Corp. (MSFT)
Year
ESG
E
S
G
ROA
ROCE
ROE
2018
49.800
77.580
97.750
93.810
0.118
0.110
0.355
2019
54.390
77.760
97.960
93.170
0.144
0.242
0.425
2020
48.000
77.890
97.690
94.620
0.150
24.900
40.100
Fig 3 : compiled by author
Tesla Inc. (TSLA)
Year
ESG
E
S
G
ROA
ROCE
ROE
2018
26.61
73.63
39.07
30.70
-0.04
-0.07
-0.18
2019
32.99
68.02
46.78
65.12
-0.02
-0.04
-0.10
2020
33.38
71.74
56.59
62.78
0.02
0.03
0.04
Fig 4: compiled by author
31
4.
Results and Analysis
SUMMARY OUTPUT FOR
THE THREE COMPANIES
TAKEN ALTOGETHER (ROA)
Regression Statistics
Multiple R
0.989894
R Square
0.979889
Adjusted R
Square
0.959778
Standard
Error
0.017016
Observations
9
ANOVA
df
Regression
4
Residual
Total
4
8
Intercept
ESG
E
S
G
Coefficients
0.469352
-0.00045
-0.00908
0.005966
-0.002
SS
MS
F
0.05643 0.014107 48.72456
0.001158
0.057588
Significance
F
0.001197
0.00029
Standard
Error
t Stat
P-value
0.111462 4.210881 0.013577
0.003265 -0.13647 0.898043
0.00175 -5.18713 0.006574
0.001307 4.564542 0.010303
0.001205 -1.66015 0.172221
32
Lower 95%
0.159885
-0.00951
-0.01394
0.002337
-0.00535
Upper
Lower
Upper
95%
95.0%
95.0%
0.77882 0.159885 0.77882
0.008621 -0.00951 0.008621
-0.00422 -0.01394 -0.00422
0.009595 0.002337 0.009595
0.001345 -0.00535 0.001345
SUMMARY OUTPUT FOR
THE THREE COMPANIES
TAKEN ALTOGETHER (ROIC)
Regression Statistics
Multiple R
0.954584
R Square
0.91123
Adjusted R
Square
0.822459
Standard
Error
0.068397
Observations
9
ANOVA
Regression
4
Significance
SS
MS
F
F
0.192087 0.048022 10.26503
0.022241
Residual
Total
4
8
0.018713 0.004678
0.210799
df
Intercept
ESG
E
S
G
Coefficients
1.19541
0.00282
-0.02155
0.010552
-0.00528
Standard
Error
t Stat
P-value
0.448037 2.668106 0.055916
0.013126 0.214811 0.840422
0.007036 -3.06283 0.037555
0.005254 2.008576 0.114986
0.004844 -1.08938 0.33722
33
Upper
Lower 95%
95%
-0.04854 2.43936
-0.03362 0.039263
-0.04108 -0.00201
-0.00403 0.025139
-0.01872 0.008172
Lower
Upper
95.0%
95.0%
-0.04854 2.43936
-0.03362 0.039263
-0.04108 -0.00201
-0.00403 0.025139
-0.01872 0.008172
SUMMARY OUTPUT FOR
THE THREE COMPANIES
TAKEN ALTOGETHER (ROE)
Regression Statistics
Multiple R
0.992315
R Square
0.98469
Adjusted R
Square
0.96938
Standard
Error
0.055165
Observations
9
ANOVA
Regression
4
Significance
SS
MS
F
F
0.782894 0.195724 64.31636
0.000696
Residual
Total
4
8
0.012173 0.003043
0.795067
df
Coefficients
2.227899
-0.00372
-0.04005
0.024604
-0.00991
Intercept
ESG
E
S
G
4.1
Standard
Error
t Stat
P-value
0.361357 6.165373 0.003514
0.010586 -0.35152 0.742932
0.005675 -7.05688 0.002127
0.004237 5.806581 0.004377
0.003907 -2.53614 0.064244
Lower 95%
1.224612
-0.03311
-0.0558
0.012839
-0.02075
Upper
Lower
Upper
95%
95.0%
95.0%
3.231187 1.224612 3.231187
0.025671 -0.03311 0.025671
-0.02429
-0.0558 -0.02429
0.036368 0.012839 0.036368
0.000939 -0.02075 0.000939
Regression overview
From a general standpoint, our financial performance metrics and the ESG
ratings components do not appear to have a substantial correlation. A little
negative correlation between the E component and almost every explanatory
financial variable we used was found. Table has a comprehensive summary of
the findings. Table contains the coefficients for the overall ESG rating and its
three pillars, E, S, and G.
34
4.2 ROA regressions Results
We conducted regressions using ROA as the response variable of the
many ESG, E, S, and G scores. No substantial impact on ROA was seen from
these ESG factors. The coefficient values for ESG, E, G, and mostly S, are
somewhat positive at times, but almost inconsequential, whereas the
coefficients of the E component for Tesla and is mildly negative as showed in
the model, but it remains almost irrelevant. The S component was the only one
that showed slight positive influence on this financial performance metric in all
the conducted regressions.
4.3 ROIC regressions Results
Using ROIC as the dependent variable, multiple regressions for E, S, G and the
overall ESG rating were conducted. With the exception of the E and S
component scores in the Microsoft Corp. regression (respectively 0.47 and
0.14), which showed a marginally positive influence on ROIC at an 80%
confidence level, none of them had a meaningful effect. The values of the
remaining non-significant coefficients obtained from the multiple regressions are
generally negative or too close to 0 and thus, irrelevant.
4.4 ROE regressions Results
When the return on equity (ROE) was employed as response variable, four
regressions were conducted for the components E, S, and G, as well as the
overall ESG score. With the exception of the G score, which had a marginally
negative influence on ROE in the Apple and Microsoft regressions at a small
35
confident level, no statistically significant relationship was found between any of
these variables. The values of the other non-significant parameters are
either negative or too close to 0 and thus, they are not statistically important.
According to the results of the Tesla and the total regression, the E variable
appears to have a small negative impact on ROE.
4.5 Total ESG score and financial performance
The major objective of this study was to assess the relationship between
the ESG rating and corporate financial performance, which was performed
using the methodology described in the methodology section.
Three regressions analyses were conducted to address the first thesis question,
namely, what is the link between ESG score and financial success. In
the multiple regressions, the response variables we used were return on assets
(ROA), return on invested capital (ROIC), and return on equity (ROE). By u sing
these three separate response variables, we tried to investigate if the ESG
score, and its three components have an impact on firm financial performance.
We discovered that the overall ESG rating had no significant influence on any of
the three dependent variables. Due to the absence of significant correlations, no
inferences about corporate financial performance can be derived using the ESG
scores utilized in this study. The only inference we can derive from the analysis
is that, despite their non-significant nature, there might be a minor positive
relationship between the S score and the financial metrics ROA and ROIC.
Additionally, there may be a modest negative correlation between the E score
and ROA and ROIC in the Tesla, and in the total regression . The finding is
consistent with that of some earlier research considered in our literature review.
In fact, as we mentioned before in this thesis, Velte (2017) discovered that there
is no correlation between ESG score and companies financial performance in
the German market. Hakan (2022), found no correlation between ESG criteria
adoption and financial success, despite the fact that their techniques were
different from ours.
36
5. Conclusion
5.1 Answering the research questions
1) Is there a correlation between commitment to ESG (environmental, social and
governance) aspects and economic and financial performance?
2) How does ESG factors affect corporate financial performance of the best
performing S&P 500 companies?
3) Which of the three components of ESG (environmental, social and
governance) shows the strongest relation to financial performance?
Our empirical findings indicate that there is no correlation between ESG score
and its three components, and corporate financial performance. This means
that no inference regarding financial success of a company, and in this
37
case three of the best performing S&P 500 companies (Apple, Microsoft, Tesla),
can be derived purely from the effects of ESG scores.
The social component (S) had the largest correlation with financial success
and although it was slightly positive (in most regressions), we still consider it
non-significant, indicating that no correlation exists between financial
performance measures and the incorporation of ESG criteria. Due to the fact
that we discovered very small meaningful results, we conclude that our findings
are not significant and thus, no assumptions can be made about the correlation
between corporate financial performance and the sustainability degree of a
company.
5.2 Future possible research
It would be interesting to see a research conducted using more data
and different types of ESG scores . In this thesis, our regression model is likely
to be missing some pertinent data. Therefore, a proposal for possible future
studies is to investigate several forms of regression analysis that would match
in a better way the type of data we utilized. A more comprehensive way to
understand if there is an actual relationship between corporate financial
performance and ESG incorporation of large-cap companies could be that of
designing a model that includes more companies and more data (for instance
more financial performance metrics that could be more related to the effects of
CSR and ESG activities) , and study if the model fits differently when this
amount of data is included. Such research might better examine the effects of
financial performance due to changes in ESG rating and in its three
38
components. The inclusion of such a dataset as a supplement to our analysis,
which focused solely on relationships between the explanatory and
response variables, would be a way to better understand how sustainable
practices could improve the business profitability of a firm.
Bibliography:
Chouaibi, S., Rossi, M., Siggia, D., & Chouaibi, J. (2021). “Exploring the
moderating role of social and ethical practices in the relationship between
environmental disclosure and financial performance: Evidence from ESG
companies. Sustainability, 14(1), 209. https://doi .org/10.3390/su14010209
Boffo, R., and R. Patalano (2020), “ESG Investing: Practices, Progress and
Challenges”, OECD Paris, www.oecd.org/finance/ESG-Investing-PracticesProgress-and-Challenges.pdf
Mohamad, N. E. (2020). Environmental, social and governance (ESG)
disclosure and
financial performance. European Proceedings of Social and
Behavioural Sciences. https://doi.org/10.15405/epsbs.2020.12.05.57
Tensie Whelan, Ulrich Atz and Casey Clark, CFA (2020) “Uncovering the
Relationship by Aggregating Evidence from 1,000 Plus Studies Published
between 2015 – 2020”,
https://www.stern.nyu.edu/sites/default/files/assets/documents/NYURAM_ESG-Paper_2021%20Rev_0.pdf
Emily Ulrich (2016), “Understanding ESG Investing”,
www.spglobal.com/spdji/en/documents/education/education-understanding-esginvesting.pdf
39
Stuart L. Gillan , Andrew Koch , Laura T. Starks (2021), “Relationship between
ESG performance and financial performance of companies: an overview of the
issue”, https://www.researchgate.net/profile/Haris-Ramic3/publication/339433734_Relationship_between_ESG_performance_and_finan
cial_performance_of_companies_an_overview_of_the_issue/links/5e51451945
8515072db19de0/Relationship-between-ESG-performance-and-financialperformance-of-companies-an-overview-of-the-issue.pdf
Julie Clémentine Faure – 2021 - ESG Investing: An overview of current and
past trends, performance and challenges. https://www.normanalex.com/wpcontent/uploads/2021/08/ESG-Investing-An-overview-of-current-and-pasttrends-performance-and-challenges.pdf
Matuszewska-Pierzynka, A. (2021). Relationship between corporate
sustainability performance and corporate financial performance: Evidence from
U.S. companies. Equilibrium, 16(4), 885–906.
https://doi.org/10.24136/eq.2021.033
Belousova, V.; Bondarenko, O.; Chichkanov, N.; Lebedev, D.; Miles, I. Coping
with Greenhouse Gas Emissions: Insights from Digital Business Services.
Energies 2022, 15, 2745. https://doi.org/10.3390/ en15082745
Timmons, D. (n.d.). Renewable Energy Economics. Building a Climate Resilient
Economy and Society, 196–210. https://doi.org/10.4337/9781785368455.00024
Zhukova, E. V. (2021). Responsible investment based on ESG components.
Innovations and Tendencies of State-of-Art Science, 8(6).
https://doi.org/10.32743/netherlandsconf.2021.6.8.288284
Kim, S.; Li, Z.(F.) Understanding the Impact of ESG Practices in Corporate
Finance. Sustainability 2021, 13, 3746. https://doi.org/10.3390/su13073746
Boffo, R., and R. Patalano (2020), “ESG Investing: Practices, Progress and
Challenges”, OECD Paris, www.oecd.org/finance/ESG-Investing-PracticesProgress-and-Challenges.pdf
40
Chouaibi, S.; Rossi, M.; Siggia, D.; Chouaibi, J. Exploring the Moderating Role
of Social and Ethical Practices in the Relationship between Environmental
Disclosure and Financial Performance: Evidence from ESG Companies.
Sustainability 2022, 14, 209. https://doi.org/ 10.3390/su14010209
Michael Dobler & Kaouthar Lajili & Daniel Zéghal, 2014. "Environmental
Performance, Environmental Risk and Risk Management," Business Strategy
and the Environment, Wiley Blackwell, vol. 23(1), pages 1-17, January.
R. Rajesh, Socio-Economic Planning Sciences,
https://doi.org/10.1016/j.seps.2021.101194
Monteiro, 2021, “ESG: disentangling the governance pillar”.
https://www.emerald.com/insight/content/doi/10.1108/RAUSP-06-20210121/full/pdf?title=esg-disentangling-the-governance-pillar
Maher et al, 1999, “CORPORATE GOVERNANCE: EFFECTS ON FIRM
PERFORMANCE AND ECONOMIC GROWTH”
https://www.oecd.org/sti/ind/2090569.pdf
Chen, L.; Yuan, T.; Cebula, R.J.; Shuangjin, W.; Foley, M. Fulfillment of ESG
Responsibilities and Firm Performance: A Zero-Sum Game or Mutually
Beneficial. Sustainability 2021, 13, 10954. https:// doi.org/10.3390/su131910945
Alareeni, B.A. and Hamdan, A. (2020), "ESG impact on performance of US S&P
500-listed firms", Corporate Governance, Vol. 20 No. 7, pp. 14091428. https://doi.org/10.1108/CG-06-2020-0258
Velte, P. (2017), "Does ESG performance have an impact on financial
performance? Evidence from Germany", Journal of Global Responsibility, Vol. 8
No. 2, pp. 169-178. https://doi.org/10.1108/JGR-11-2016-0029
Eratalay, Mustafa Hakan, and Ariana Paola Cortés Ángel. 2022. The Impact of
ESG Ratings on the Systemic Risk of European Blue-Chip Firms. Journal of
Risk and Financial Management 15: 153. https:// doi.org/10.3390/jrfm15040153
41
Maria Giuseppina Bruna , Salvatore Loprevite , Domenico Raucci , Bruno Ricca
, Daniela Rupo , Investigating the marginal impact of ESG results on corporate
financial performance, Finance Research Letters (2022), doi:
https://doi.org/10.1016/j.frl.2022.102828
Kazakakou Powaski, M. C., Daza Ordoñez, C., & Jáuregui Sánchez, L. (2021).
ESG impact on financial corporate performance and portfolio returns: evidence
of Australia and Japan. VinculaTégica, 7(1), 53–78.
https://doi.org/10.29105/vtga7.2-5
Coburn, 2021, “ESG: Fast-emerging challenges for financial institutions: A 2021
special report by Thomson Reuters Regulatory Intelligence”
https://www.thomsonreuters.com/en-us/posts/wpcontent/uploads/sites/20/2021/09/ESG-2021_A4_Final_web.pdf
EFRAG, 2021, “CURRENT NON-FINANCIAL REPORTING FORMATS AND
PRACTICES”,
https://www.efrag.org/Assets/Download?assetUrl=%2Fsites%2Fwebpublishing
%2FSiteAssets%2FEFRAG%2520PTFNFRS_A6_FINAL.pdf&AspxAutoDetectCookieSupport=1
Matuszewska-Pierzynka, A. (2021). Relationship between corporate
sustainability performance and corporate financial performance: evidence from
U.S. companies. Equilibrium. Quarterly Journal of Economics and Economic
Policy, 16(4), 885–906. doi: 10.24136/eq.2021. 033
Lavorini (2021), “ESG scores and corporate financial performance An empirical
study of the luxury industry”
http://tesi.luiss.it/26878/1/700911_LAVORINI_FRANCESCO.pdf
Kim, Jinwook & Chung, Sunggon & Park, Cheongkyu. (2013). Corporate Social
Responsibility and Financial Performance: The impact of the MSCI ESG
42
Ratings on Korean Firms. Journal of the Korea Academia-Industrial cooperation
Society. 14. 10.5762/KAIS.2013.14.11.5586.
Qureshi MA, Akbar M, Akbar A, Poulova P. Do ESG Endeavors Assist Firms in
Achieving Superior Financial Performance? A Case of 100 Best Corporate
Citizens. SAGE Open. April 2021. doi:10.1177/21582440211021598
Damodaran, Stern School of Business, 2007, “Return on Capital (ROC), Return
on Invested Capital (ROIC) and Return on Equity (ROE): Measurement and
Implications”
https://pages.stern.nyu.edu/~adamodar/pdfiles/papers/returnmeasures.pdf
43
ESCP EUROPE
BACHELOR THESIS
Thesis submitted in partial fulfilment of the requirements for the degree of
Bachelor in Management
Sustainable Investing: The evolution of ESG and its
impact on Corporate financial performance
44
Thesis Supervisor: Prof. Franck Bancel
Author: Leonardo Peretti
45
46