The Impact of ESG on Financial Performance

Abstract

In recent years, the focus on environmental, social and governance (ESG) factors
has grown substantially from investors and the society overall. This successive
switch to more sustainable practices has created a new interesting conversation
regarding the impact of ESG on companies’ financial performances. This study
will deep dive into this new problem statement, investigating the role of ESG
both from a firm’s perspective and an investor’s perspective.

This study included 61 companies acting on the Swedish market between the
years 2014-2021. To investigate the impact of ESG on financial performance
from a firm’s perspective two different regression models were created. All the
data for the regression analysis was collected from the Bloomberg database.
In the portfolio construction the same companies were used as included in the
regression analysis. Two different portfolios were created taking ESG-rating into
consideration. The daily Sharpe Ratios were then calculated based on the year
2022 and compared to the market index OMXS30 to see if the portfolios could
possibly outperform the market. The stock prices for the portfolio construction
were collected through Excel and Yahoo Finance.

The results from this study showed a neutral relationship between ESG and
financial performance from a firm’s perspective, both in the ROA model and the
ROE model. For the portfolios the first one based on the year 2021 performed
better than the market index in absolute terms comparing the Sharpe Ratios,
but where the difference was not significant. The second portfolio based on
the years 2014-2021 performed worse than the market index in absolute terms
comparing the Sharpe Ratios.

The conclusion can therefore be drawn, that based on the data sample used in
this study there is no significant relationship between ESG-rating and financial
performance on the Swedish market from a firm’s perspective. The first constructed portfolio did benefit the investor by performing slightly better than the
market during 2022 in terms of Sharpe Ratio, however since it was not statistically significantly better than the market portfolio OMXS30 it can not be said that this will be the case in the future. The second portfolio had a lower daily Sharpe Ratio than the market.

Popular Abstract

In recent years, the focus on environmental, social and governance (ESG) factors
has grown substantially from investors and the society overall. This significant surge in interest for more sustainable practices has created a new interesting conversation regarding the impact of ESG on companies' financial performances. This study was conducted with the motive to deep dive into this new puzzle proclamation, investigating the role of ESG both from a firm's, and an investor's perspective.

Corporate social responsibility (CSR) can be seen as a business model offering insights of a firm’s work towards sustainability. Not only is it vital for the company itself, but also for investors, customers and the public to understand how the business approaches sustainability matters. Establishing CSR is a way of showing the stakeholders that sustainability not only is a buzzword, but truly something crucial for a business to survive in the long run and build competitiveness. However, the question is: How much of a splash does incorporating sustainable practices make for the firm itself and the investor?

To examine the impact of ESG on financial performance from a firm’s point of view, two regression models were created having the financial performance measures Return on Asset (ROA) and Return on Equity (ROE) as the dependent variables. From the investor’s standpoint, two portfolios were constructed and compared to the market index. From the sample of available companies, firms were added to the portfolios based on ESG-rating, choosing one company from each sector. Unexpectedly, the problem regarding ESG remains puzzling as it turned out to have no significant impact on a firm’s financial performance. Although one of the portfolios performed better than the market index in absolute terms, the difference was still insignificant. Despite the fact that the portfolio did
benefit the investor, this outcome does not assure matching results in the future.

Even though the mystery around ESG continues, this thesis has hopefully contributed with a deeper insight and guidance for further research. Regardless of the outcome, this thesis puts the problem into perspective, and the slightly positive result for one of the portfolios at least brings a twinkle of hope for the investors.

• author: Rosvall, Jakob
• supervisor: Dag Rydorff
• organization: Department of Economics
• course: EXTM10 20231
• year: 2023
• type: H2 - Master's Degree (Two Years)
• subject: Business and Economics
• keywords: Corporate Social Responsibility (CSR), Environmental, Social, Governance (ESG), ESG-rating, Return On Asset (ROA), Return On Equity (ROE), Ordinary Least Squares (OLS), Modern Portfolio Theory (MPT), Sharpe Ratio, Bloomberg, Sweden
• language: English
• id: 9124585
• date added to LUP: 2024-04-03 07:52:41
• date last changed: 2024-04-03 07:52:41