The elusive relationship between financial and sustainability performance: The study of the impact of crises and sensitive industries

Abstract

This thesis examines the relationship between sustainability and financial performance across 2256 firms in 18 European countries over 18 years. Our findings reveal that ESG combined scores positively predict return on assets (ROA) and return on equity (ROE), controlling for firm size, leverage, and lagged ROA/ROE. We also find that profitability positively predicts ESG combined scores. One possible explanation for these findings is that stakeholders value sustainability. However, companies often face financial constraints, making profitable firms better positioned to invest in sustainability initiatives. When analyzing the separate Environmental (E), Social (S), and Governance (G) scores on profitability measures, we find that the E and S scores positively predict profitability. In contrast, the G score shows a negative but insignificant relationship with profitability. For stock returns, ESG combined scores negatively predict stock returns, indicating that the market may overprice ESG benefits. Additionally, we find that the impact of ESG on stock returns becomes more significant when we control for profitability.

To gain a deeper understanding of the relationship between sustainability and financial performance, we studied the difference between sensitive and non-sensitive industries and during crises. We find that the E score negatively predicts ROA for sensitive industries. Notably, we find that the ESG combined, E and S scores are negative and significant predictors for ROE. These findings might indicate higher compliance costs for firms operating in these industries. During crises, the ESG combined score showed a positive and significant predictive relationship with ROE only during the COVID-19 crisis; otherwise, the results were insignificant. These findings highlight the context-dependent nature of the relationship between ESG scores and financial performance.