Professional Documents
Culture Documents
AVANCERAD NIVÅ, 30 HP
STOCKHOLM, SVERIGE 2019
YRR AHLKLO
CARIN LIND
KTH
SKOLAN FÖR INDUSTRIELL TEKNIK OCH MANAGEMENT
E, S or G? A study of ESG score and
financial performance
by
Yrr Ahlklo
Carin Lind
Yrr Ahlklo
Carin Lind
Yrr Ahlklo
Carin Lind
Approved Examiner Supervisor
2019-01-29 Hans Lööf Christian Thomann
Commissioner Contact person
Erik Penser Bank Jonas Thulin
Abstract
Sustainability is not a new concept to the financial markets, but its popularity and wider
use have increased as people have grown more concerned about the future of this
planet. However, the relationship between sustainable investments and financial
performance is not clear. One of the most used measures of sustainability is the
concept of ESG score, where E, S and G stand for environmental, social and
governance. In this study, we investigate the relationship between ESG score and
financial performance, both market and accounting based. We also separate the score
into its individual parts E, S, and G, and try to distinguish which factor has the strongest
relation to financial performance. To evaluate the relationship, a regression analysis
was performed on a sample of Nordic stocks and the Sustainalytics ESG rank. Our
findings concluded no significant relationship between ESG score and financial
performance, neither market nor accounting based. The environmental factor (E)
showed the strongest relation to financial performance, however slightly negative and
only significant to one dependent variable out of three. Our results indicate that based
on the ESG score used in this study, no conclusions can be drawn about financial
performance. Since our research does not indicate a significant relationship, our
recommendation is to invest in the highest ESG ranked stock in case of choosing
between two otherwise similar stocks.
Key-words
ESG score, financial performance, regression, return, firm value, sustainable
investment, corporate social responsibility, stakeholder theory.
Examensarbete TRITA-ITM-EX 2019:12
Yrr Ahlklo
Carin Lind
Godkänt Examinator Handledare
2019-01-29 Hans Lööf Christian Thomann
Uppdragsgivare Kontaktperson
Erik Penser Bank Jonas Thulin
Sammanfattning
Hållbarhet är inget nytt koncept inom finans, men dess popularitet och användning har
ökat kraftigt. Dock är det fortfarande oklart hur hållbara investeringar förhåller sig till
lönsamhet och avkastning. En av de mest använda hållbarhetsmåtten är ESG, som står
för environmental, social and governance. I denna studie undersöker vi relationen
mellan ESG-mått och lönsamhet, både marknads- och resultatbaserad. Vi delar också
upp ESG i sina tre komponenter E, S, och G för att undersöka vilken faktor som har den
starkaste relationen till lönsamhet. Detta görs genom en regressionsanalys med
paneldata från ett urval av nordiska aktier och Sustainalytics ESG-mått. Vårt resultat
visar ingen signifikant relation mellan ESG-mått och lönsamhet. Komponenten E visar
den starkaste relationen till lönsamhet, ett signifikant och något negativt samband, men
endast till en av tre responsvariabler. Vårt resultat indikerar således att inget samband
verkar finnas mellan lönsamhet och dessa ESG-mått. Eftersom vår studie inte visar på
något signifikant samband, blir vår rekommendation att investera i den aktien med högst
ESG-mått, om man skulle välja mellan två annars lika aktier.
Nyckelord
ESG, finansiell lönsamhet, avkastning, regressionsanalys, hållbara investeringar,
rörelsevärde, CSR, Intressentmodellen.
Contents
1 Introduction 1
1.1 Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Sustainable investing - a debated topic in finance . . . . . . 1
Measuring sustainability is complex . . . . . . . . . . . . . . 1
ESG - the dominating concept for measuring sustainability 2
Regulation pressure banks to take interest in ESG . . . . . . 2
1.2 Problematization . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.3 Purpose of thesis . . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.4 Research questions . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.5 Defining and delimiting the scope . . . . . . . . . . . . . . . . 4
1.6 Contribution to research field and industry . . . . . . . . . . . 5
2 Literature Review 6
2.1 Definitions of sustainability . . . . . . . . . . . . . . . . . . . . 6
2.2 Corporate Social Responsibility . . . . . . . . . . . . . . . . . . 7
What is it? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
Should CSR affect financial performance? . . . . . . . . . . 7
2.3 Measuring CSR by different scores . . . . . . . . . . . . . . . . 8
Scores and actors . . . . . . . . . . . . . . . . . . . . . . . . . 8
ESG score . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.4 Screening methods in sustainable investing . . . . . . . . . . . 9
Negative screening . . . . . . . . . . . . . . . . . . . . . . . . 9
Positive screening . . . . . . . . . . . . . . . . . . . . . . . . 9
Combined approach example . . . . . . . . . . . . . . . . . 10
2.5 Links between CSR activity and financial performance . . . . . 10
Accounting based financial performance . . . . . . . . . . . 10
Market based financial performance . . . . . . . . . . . . . . 11
Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
2.6 Literature review summary . . . . . . . . . . . . . . . . . . . . 13
3 Method 15
3.1 Scientific approach . . . . . . . . . . . . . . . . . . . . . . . . . 15
Research design and approach . . . . . . . . . . . . . . . . . 15
Literature review method . . . . . . . . . . . . . . . . . . . . 15
Validity and reliability . . . . . . . . . . . . . . . . . . . . . . 16
v
vi CONTENTS
Researchers’ bias . . . . . . . . . . . . . . . . . . . . . . . . . 17
3.2 Designing the regression analysis . . . . . . . . . . . . . . . . . 17
Regression variables . . . . . . . . . . . . . . . . . . . . . . . 18
Preliminary regression models . . . . . . . . . . . . . . . . . 20
3.3 Data collection . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
Data collection method . . . . . . . . . . . . . . . . . . . . . 21
Sample selection . . . . . . . . . . . . . . . . . . . . . . . . . 21
Exploring the data . . . . . . . . . . . . . . . . . . . . . . . . 23
3.4 Development of the final regression models . . . . . . . . . . . 26
Statistical tests used in model diagnostics . . . . . . . . . . . 26
Modifications of the regression models . . . . . . . . . . . . 26
Final regression models . . . . . . . . . . . . . . . . . . . . . 27
4 Empirical results 29
4.1 Regression summary . . . . . . . . . . . . . . . . . . . . . . . . 29
4.2 ROA regressions . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Model diagnostics . . . . . . . . . . . . . . . . . . . . . . . . 29
4.3 Tobin’s q regressions . . . . . . . . . . . . . . . . . . . . . . . . 32
Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
Model diagnostics . . . . . . . . . . . . . . . . . . . . . . . . 32
4.4 Stock return regressions . . . . . . . . . . . . . . . . . . . . . . 33
Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
Model diagnostics . . . . . . . . . . . . . . . . . . . . . . . . 34
6 Conclusion 40
6.1 Answering the research question . . . . . . . . . . . . . . . . . 40
6.2 Recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . 40
6.3 Future research . . . . . . . . . . . . . . . . . . . . . . . . . . . 40
Bibliography 42
B List of stocks 62
List of Figures
3.1 Sustainalytics rank sample histogram . . . . . . . . . . . . . . 23
3.2 Correlation matrix . . . . . . . . . . . . . . . . . . . . . . . . . . 25
viii
List of Tables
2.1 Summary of literature review. . . . . . . . . . . . . . . . . . . . 14
ix
Acknowledgement
We would like to thank Jonas Thulin and Jonathan Werner for the opportunity
to write our thesis in collaboration with Erik Penser bank, and with a great
deal of flexibility regarding the scope of the thesis. Your input has been very
helpful and contributed to a more interesting scope.
We also want to thank our supervisor Christian Thomann, for always an-
swering our questions straight away and for the advice on econometrical
issues. Additionally, we appreciate all the discussions and seminars that
contributed to improving our thesis.
Chapter 1
Introduction
1.1 Background
Sustainable investing - a debated topic in finance
Sustainability is not a new concept to the financial markets, but its popularity
and wider use has increased as people have grown more concerned about
the future of this planet. Since the world strives to be more environmentally
friendly in order to reduce global warming (TT 2018), the financial sector
must keep up with the trend. It is our view that sustainability and investing
is a debated combination which attracts the attention of the general public.
For example, a Swedish newspaper published an interview with professor
Robert G Eccles whose research shows that sustainable companies are more
profitable (Johansson 2015). But some critical voices mean that in the financial
sector, sustainability is just a buzzword to sell new (or slightly changed old)
products at a higher price (Petersson 2018).
One reason for the critique might be that the question remains of what a
sustainable investment really is and how it is defined. The lack of clear
definition and standard contribute to a more doubtful market and can make
investors unsure about the whole concept. Sustainability is such a broad
and complex concept, and there are many definitions and applications of the
word itself. We believe it is common to foremost associate sustainability with
reducing carbon emissions.
1
2 CHAPTER 1. INTRODUCTION
hand, a company can have high carbon emissions but fill a sustainable
purpose, for example a public transport company. It probably has relatively
high carbon emissions but is still an environmentally sustainable business,
since buses transport a lot of people that would otherwise travel in individual
cars.
1.2 Problematization
The focus on measuring sustainability leads to the question of whether
sustainability measures can be used to improve financial performance. Some
studies, but maybe foremost marketing from the financial sector, say that
sustainable portfolios give higher returns and outperform index (Thompson
2018). One example of an ESG portfolio that actually does well would be
the World SRI (Socially Responsible Investment) Index by MSCI, a provider
of stock/fixed income indices, which has performed slightly better than the
corresponding general world index since 2007 (MSCI 2018). The selection
of stocks is based on ESG data, but is it really sustainability that drives the
performance? As can be seen in section 2.5 in our literature review, the
picture is not clear of whether there exist a link or not, and in that case why.
Today, asset managers, private investors and smaller institutions rely on
external analysis for ESG scoring, since most do not have ESG analysts of
their own. The ESG scoring process is not always very transparent, so if there
is a link, the lack of transparency makes it hard to judge where the returns
really come from. Maybe investors could increase financial performance
if they knew how to pick the best out of the ESG rated companies? In
that case, the question is what part of the ESG score is related to returns.
One hypothesis of why a world SRI index have higher returns could be
that sustainable companies ought to perform better in the long run, since
sustainable businesses and products could be subject to higher demand in
the future as concern for the environment grows. Another hypothesis is
that ESG portfolios show better performance because investors respond to a
temporary ESG trend, which drives up the stock prices for companies with
good ESG practices. With different types of ESG scores, little transparency
4 CHAPTER 1. INTRODUCTION
Literature Review
2.1 Definitions of sustainability
In this paper, we do not attempt to judge the sustainability of companies nor
of stock portfolios. Nevertheless, it is important to know different definitions
of sustainability used in the literature. One of the most common and quoted
definitions comes from the UN World Commission on Environment and De-
velopment. It says "sustainable development is development that meets the
needs of the present without compromising the ability of future generations
to meet their own needs" (United Nations 1987). In finance, sustainabil-
ity and sustainable investments is an umbrella term for investments that
pursue to have a long term positive effect on society and environment. Fur-
thermore, sustainability conscious investors also seek returns and financial
performance, like most investors do. Under the umbrella term sustainable
investments, we find terms like socially responsible investing (SRI), ethical
investing, green investing and ESG score. There exits different schools and
opinions about how to define these terms. According to the European Com-
mission European Comission (2018), sustainable finance is defined as "the
provision of finance to investments taking into account environmental, social
and governance considerations". The European Commission also states that
sustainable finance includes a strong green finance component that aims to
support economic growth while:
• Reducing pressures on the environment
• Addressing green-house gas emissions and tackling pollution
• Minimizing waste and improving efficiency in the use of natural re-
sources
It also encompasses increasing awareness of and transparency on
• The risks which may have an impact on the sustainability of the finan-
cial system
6
CHAPTER 2. LITERATURE REVIEW 7
• The need for financial and corporate actors to mitigate those risks
through appropriate governance
We will use the European Commissions definition of sustainable finance and
especially look at the measurement ESG score.
ESG score
As this thesis will focus on ESG score and its implications for financial
performance, ESG score is explained below. According to the Principles of
Responsible Investing (PRI), ESG is defined as a term that helps investors to
better manage risk and sustainable long-term returns (PRI 2018). ESG scores
are used by investors to estimate the ability of companies to be sustainable,
in addition to other analysis tools for assessing future financial performance.
The Sustainalytics ESG rank (the ESG score used in this thesis) ranges from 0
to 100, where 100 is the best score a firm can achieve. As earlier mentioned,
ESG stands for environmental, social and governance. We explain the factors
below (PRI 2018).
Positive screening
Positive screening is a screening method where the best companies are
selected. Companies with strong records of social and environmentally
friendly activities such as good working conditions, energy efficient solutions
and good recycling policies are favored. These companies usually have
higher ESG scores. As for negative screening, one method is to pick the
best individual stocks, for example by setting a lowest allowed ESG score
for the portfolio. This type of positive screening is often referred to as the
best-in-class concept. Another method is to invest in sectors which are
deemed beneficial for sustainability. Examples of industries or businesses
that typically are recognized in a positive screening are waste management,
10 CHAPTER 2. LITERATURE REVIEW
study by Friede, Busch, and Bassen (2015) that compiled data from 2200
studies also found a positive link to accounting based performance. Contrary
to these findings, Dahlberg and Wiklund (2018) found no link between ESG
score and accounting performance based performance in their recent study
of the Nordic stock market.
In a study of the German market, Velte (2017) examines the relationship
between ESG score and financial performance for companies listed on the
German Prime Standard during the years of 2010-2014. The results of his
research and regression analysis show that there is a positive relationship
between ESG performance and accounting based financial performance.
However, the study concludes that there is no positive relationship between
ESG and market based financial performance. Velte also investigated which
of the factors E,S and G showed the strongest correlation to accounting
based financial performance. The factors where included separately in the
regression model. All factors showed a positive correlation to the accounting
based financial performance, and the governance factor (G) showed the
strongest correlation.
Risk
Verheyden, Eccles, and Feiner (2016) investigate the relationship between
ESG, risk, return and diversification. They create four different universes of
stocks based on ESG screening, and find that the screening adds 0.16% on
average to annual returns. The risk is also lower, measured by volatilty, draw-
downs and conditional value at risk (CVaR). In three out of four universes
they also find that the added return outweighs the sacrificed diversification,
going against the earlier mentioned "no link theory". The study by Clark,
Feiner, and Viehs (2015) mentioned above that compiled the results from over
200 previous studies about ESG score and financial performance presents the
result that sustainable companies achieve higher profits and are less risky.
Method
3.1 Scientific approach
Research design and approach
Since the aim of this study is to investigate the relation between ESG score
and financial performance, a quantitative study seems to suit our purpose
well (Blomkvist and Hallin 2015). To make the problematization researchable,
we use an explanatory research design which means that our study aims to
find for example correlation between potential cause and effect. According
to Blomkvist and Hallin (2015), when choosing a research design it is im-
portant to know what type of empirical material (explanans) will help you
understand the studied phenomenon (explanandum). Our explanandum
is whether sustainable investments, i.e. stocks with higher ESG score, have
higher financial performance than those with low ESG score. In order to
understand the explanandum, we gathered empirical material in the form
of different types of financial data and ESG score, which have been our
explanans.
The research approach can be inductive or deductive, which describes the
relationship between research and theory (Blomkvist and Hallin 2015). In an
inductive approach, it is the empirical material that indicates which theory is
of interest. It may lead to new theories and other frameworks than you first
started from. Using a deductive approach, you will start reading and relate
your research to existing theory. Since this study aims to and analyze and
contribute to existing theory, a deductive approach is an obvious choice.
15
16 CHAPTER 3. METHOD
Keywords
ESG score
Firm value
Sustainable investment
ESG and return
ESG regression
Financial performance
Stock market performance
Corporate social responsibility (CSR)
Social responsible investing (SRI)
Ethical investing
Green investing
Stakeholder Theory
rank companies, the result can not be guaranteed to be the same when a
different ESG source is used. To maximize reliability, we have tried to be
transparent and include all data manipulation.
Researchers’ bias
Since we use a quantitative method and data from a reliable source, the bias
is minimized. While we have tried to be as impartial as possible in our anal-
ysis, we as authors could still be biased about the subject. To acknowledge
this matter, we here present our thoughts on sustainability and financial
performance so the reader can take our opinions into consideration. We hope
that there exists a positive correlation between sustainability, i.e. ESG score,
and financial performance. We also hope that investing in companies with
higher scores can encourage better environmental, social and governance
contributions to the society in the future. If investors knew that sustain-
able investments gave higher performance, more would invest in them and
contribute to a more sustainable world.
an unknown variable which is not accounted for in the model. Hence, this
study solely aims to find the relationship between ESG score and financial
performance and therefore no additional causality test will be executed.
After collecting relevant data, the regression model was evaluated using a
series of statistical methods and tests to assess the assumptions mentioned
above. The tests are described in section 3.4 on page 26. We used the
programming language R along with some specific R packages for data
manipulation and statistical tests. Based on available data and test results,
the model was adapted into the final regression model, which is found in
section 3.4 on page 26.
Regression variables
A summary of the regression variables can be found in table 3.2.
Dependent Variables
Return on Assets (ROA) Net Income / Total Assets
Tobin’s q Market Value of Equity and Liabilities/ Book
value of Equity and Liabilities
Return Yearly stock returns
Independent Variables
ESG Sustainalytics rank, i.e. ESG score
E Environmental score
S Social score
G Governance score
Control Variables
BETA The beta factor, calculated as explained below on
page 20, (Systematic risk)
Leverage (LEV) Total debt/total assets, (unsystematic risk)
Size of firm (SIZE) Natural logarithm of total assets
R&D expenses (R&D) R&D expenses from financial statements
2016 Variable for year 2016
2017 Variable for year 2017
2018 Variable for year 2018
Industry Group (IND) Dummy variable for branch of industry (GICS)
Country of stock (COUNT) Dummy variable of country of trade
Dependent variables
As dependent (or response) variables, i.e. variables representing the financial
performance, we have chosen three different measures. We use Return on
Asset (ROA) as the variable for accounting based performance and Tobin’s
q and stock return as the variables for market based performance. As can
be seen in the literature review summary in table 2.1, several earlier studies
with similar methods use the same variables as dependent variables (Velte
2017; Dahlberg and Wiklund 2018; Han, H. J. Kim, and Yu 2016). Both ROA
and Tobin’s q are financial ratios. ROA is the profit a firm earns in relation
to its overall assets. Tobin’s q represents the ratio between market value
and book value, it is a valuation estimator that expresses if a stock is under
or overvalued. If the ratio is below one, it indicates that the cost to replace
the value of a firm’s assets is greater than its stock value, i.e. the stock is
undervalued. A ratio over one indicates the opposite and a ratio of one
indicates that the market value is the same as the asset value. Since we are
also interested in whether there exists any direct relationship to the stock
returns as well, we added yearly stocks returns as the last dependent variable.
The stock returns are calculated from the mid price of the last trading day in
December, year over year. All the dependent variables are defined in table
3.2.
Independent variables
The variables of interest in this thesis are the Sustainalytics ESG score and its
components, so these are used as independent variables in the regressions.
The first independent variable is the total environmental, social and gover-
nance (ESG) performance score. The separate environmental (E) score is used
as the second independent variable, the social (S) score as the third and the
governance (G) score as the fourth. The scores are further described in sec-
tion 2.3 on page 8. All scores and information are collected from Bloomberg
Terminal and Sustainalytics.
We do not believe that the impact of the ESG data on the financial perfor-
mance will occur instantly and therefore we have included a time lag. We
have chosen to lag the data one year in line with previous studies (Velte 2017)
and because it makes the data comprehensible. The financial performance
from year t + 1 will be hence matched with the ESG score from the year t.
20 CHAPTER 3. METHOD
Control variables
As control variables we use several variables that have been selected to be in
line with earlier studies, for example Velte (2017) and Dahlberg and Wiklund
(2018). We use the beta factor and total debt over total assets, i.e. leverage, as
the firm risk. The beta factor was calculated for every stock and year with the
R function CAPM.beta from the package Performance Analytics. As input
we used a risk free rate of zero, the daily price of every stock and the stock
index corresponding to the country the stock trades in (OMXS30 for Sweden,
OMXC20 for Denmark, OMXH25 for Finland and OMXO20 for Norway).
The firm size is given by the natural logarithm of total assets in line with
Velte (2017). R&D expenses are reported by companies in their financial
statements. The same way as the ESG data, we lag the control variables one
year so the financial performance from year t + 1 will be matched with the
control variable from the year t. Lastly, we add year variables for 2016, 2017
and 2018. Industry and country are used as dummy variables.
+ 9 IN D + 10 COU N T + ✏it
+ 9 IN D + 10 COU N T + ✏it
+ 9 IN D + 10 COU N T + ✏it
where all variables can be found in table 3.2 above, ↵ is a constant, 1 10 are
the coefficients and "it is the random error term.
CHAPTER 3. METHOD 21
Bloomberg Terminal
Bloomberg Terminal is a computer software system where you can find for
example real time market data and trade with electronic orders. It also keeps
you updated with the latest news and research (Bloomberg 2018). Erik Penser
Bank uses the Bloomberg Terminal as their everyday tool. Because of that,
and our perspective from a small institution’s point of view, we have decided
to use data available in Bloomberg Terminal in order to make this study as
authentic as possible.
Sample selection
Population
We decided to select a sample from the population of Nordic stocks, since
we found few studies conducted on such a sample. Other reasons to in-
22 CHAPTER 3. METHOD
vestigate Nordic stocks is that this study was done in cooperation with a
small, Swedish bank with an interest in the Nordic market and that we are
interested in how the Nordic market compares to other studies with different
samples. For example, we can compare our results with Velte (2017) who
has done a similar study on the German market or Han, H. J. Kim, and Yu
(2016) who have done a comparable study on the Korean market. We can
also compare our results to Dahlberg and Wiklund (2018) who have also
used the Nordic market as their sample but with a different source of data
and ESG score.
The population was determined to be all the stocks which are part of the
indices:
• OMX Stockholm All Shares (OMXSPI)
• OMX Copenhagen All shares (OMXCPI)
• OMX Helsinki All shares (OMXHPI)
• Oslo Børs All-share Index (OSEAX).
Sample construction
We selected the stocks from the indices above which had both an ESG score
from Sustainalytics reported in the Bloomberg terminal and data for the
independent and control variables. However, during this stage of the data
collection we discovered that very few companies reported their R&D ex-
penses, and hence we had to exclude R&D as a control variable. The sample
can be found in AppendixB.
Financial firms were excluded from the sample since their properties are
very different regarding for example the control variable leverage (LEV). A
leverage level that is normal for a financial firm could be a sign of distress
for a non financial firm. Removing financials is a common practice in quanti-
tative research and also in line with previous studies (Velte 2017; Dahlberg
and Wiklund 2018; Han, H. J. Kim, and Yu 2016). Since the data in this study
is of panel structure, we also removed stocks with less than three years of
data, to obtain a more balanced panel.
Our final sample contains 267 stock-year observations. Table 3.3 shows the
number of stocks per year in the sample, and how the different modifications
affected the sample size.
CHAPTER 3. METHOD 23
Descriptive statistics
The descriptive statistics of all dependent and independent variables before
processing the data sample are presented in table 3.4 below. R&D is excluded
24 CHAPTER 3. METHOD
Table 3.4: This table shows descriptive statistics of the sample before processing
for the analysis. q75 and q25 are the quartiles, i.e. the values that delimit the 25%
largest and smallest value. SD is the standard deviation of the variables.
Table 3.5: This table shows descriptive statistics of the processed sample used in
the regression analysis. q75 and q25 are the quartiles, i.e. the values that delimit
the 25% largest and smallest value. SD is the standard deviation of the variables.
Superscript w means the data is winsorized using levels (0.01, 0.99). The description
of the data processing is found in section 3.4.
and financial stocks were removed, as mentioned in section 3.3. The ESG,
E, S and G score scale is from 0 to 100. The beta factor was calculated as
mentioned above in section 3.2 on page 20. The descriptive statistics of the
processed sample used in the regression analysis could be found in table 3.5
on page 24. The data manipulation of the sample is explained in section 3.4.
CHAPTER 3. METHOD 25
Correlation Matrix
The correlation matrix of the non dummy variables is presented in figure
3.2 on page 25. As expected, the social, governance and environmental
scores are highly correlated with the total ESG score, which is natural since
ESG is the aggregated score of its components. But the correlations are not
one, which means it is meaningful to test the components individually. The
correlation between the social/environmental score and the total ESG score
is higher than between the governance and ESG score. This indicates that the
environmental and social factors are more in line with the total ESG score
than the governance factor is.
Figure 3.2: Correlation matrix. The correlations in colored squares have a p-value of
<0.05, and the correlations in white squares are non significant.
We also notice that the size is negatively correlated to Tobin’s q, i.e. market
based financial performance, and slightly positively correlated to the ESG
score, which could suggest that larger firms have higher ESG scores. We
also note that the variables Beta and Return do not have any significant
correlation with any variable. This is a bit surprising since Return ought to
have a correlation to both Beta and Tobin’s q.
26 CHAPTER 3. METHOD
differences in variance between countries and industries and the fact that
we had to exclude R&D as a variable, we believe there is unobserved hetero-
geneity in the sample. Therefore we used a fixed effects regression model.
We believe that this type of regression model is the most suitable for our
data and type of problem. A fixed effects model is used also because we
are only interested in analyzing the impact of variables that vary over time.
To explain fixed effect regression briefly, it measures the the relationship
between predictor and outcome variables within a unit (i.e. within a stock).
Each stock has its own particular characteristics that may or may not affect
the predictor variables (Torres Reyna 2007). Since fixed effects models do
not take variables into account if they do not change over time, the dummy
variables for country and industry are no longer needed in the model.
To reduce heteroskedasticity in the regressions with Tobin’s q as dependent
variable, we decided to use log(Tobin’s q) instead. We also used winsorizing
with levels 0.01, 0.99. This reduced, but did not eliminate, the heteroskedas-
ticity evident in the residuals (see figure 4.2). We then decided to use robust,
individually clustered standard errors to account for heteroskedasticity and
the panel structure of the data. For the dependent variables ROA and stock
returns, winsorizing them and the control variables (we used the quantiles
0.01 and 0.99) to reduce outliers proved to be the most effective technique for
better model fit. For the ROA regressions, we also decided to exclude five
very extreme observations of ROA > 70%, which we knew were due to tech-
nical accounting issues because of company splits or sales. The observations
were removed before winsorizing.
Returnw
it =↵i + 1 ESGit + w
2 SIZEit + w
3 LEVit + w
4 BET Ait +
Empirical results
4.1 Regression summary
In summary, our regressions do not indicate any significant relationship be-
tween financial performance and the total ESG score, nor between financial
performance and any of the E, S or G components. Only the E component
showed a slightly negative significant relationship with log(Tobin’s q) (esti-
mate -0.0031, p-value < 0.05). For a full summary of the results, see table 4.1.
The confidence intervals for the coefficients for the total ESG score, E, S and
G are found in table 4.2. In Appendix A, the full R output of the regression
with total ESG score can be found, including all plots and test statistics not
presented in this chapter.
Model diagnostics
The model diagnostics tests show the same results for the four ROA regres-
sions, why the comments below apply to all four of them. First, we look at
figure 4.1 which shows residuals plotted against the fitted values. In the plot,
we do not see clear signs of heteroskedasticity, and the Breusch-Pagan test
does not find significant heteroskedasticity either. There is a clear cluster of
residuals around the fitted ROA value of five. We do not think this pattern
29
30 CHAPTER 4. EMPIRICAL RESULTS
Table 4.1: Summary of the results of the twelve fixed effects regressions. The first
row shows which dependent variable the results below are associated with. First
number presented is the estimate of the coefficients for each regression. The numbers
presented within parentheses is the clustered and robust standard errors. The symbols
*, ** and *** indicate significance levels of 5%, 1% and 0.1% respectively.
CHAPTER 4. EMPIRICAL RESULTS 31
Table 4.2: This table shows the confidence intervals of the regression estimates of
how the ESG score and its components affect the financial performance measures
ROA, Tobin’s q and stock returns.
10
5
residuals_ROA
−5
−10
0 10 20 30 40
fitted_values_ROA
Figure 4.1: Residuals vs fitted values for the regression with ROA as response
variable and ESG score as variable of interest.
Model diagnostics
The model diagnostics tests show the same results for the four log(Tobin’s
q) regressions, why the comments below apply to all four of them. First,
we look at figure 4.2 with residuals plotted against the fitted values. In
the plot, there is a classical cone shaped heteroskedasticity pattern, and the
Breusch-Pagan test indeed rejects the homoskedasticity hypothesis. Hence,
taking the logartithm of Tobin’s q did not completely remedy the hetero-
skedasticity problem. However, we use robust standard errors which are
heteroskedasticity consistent. In the plot there is also a clear cluster of
residuals between the fitted log(Tobin’s q) values 0-1. We do not think this
pattern indicates non-linearity, because it corresponds to the distribution of
the log(Tobin’s q) since the Tobin’s q data is skewed towards lower values.
For comparison, the distribution can be studied in the descriptive statistics
in table 3.4.
By inspecting the Q-Q plot and histogram of residuals, we can see that the
distribution of residuals is too peaked and has too heavy tails to be normally
distributed. The Shapiro-Wilk test also rejects the hypothesis of normality.
CHAPTER 4. EMPIRICAL RESULTS 33
residuals_tobins_q 0.3
0.0
−0.3
−0.6
0.0 0.5 1.0 1.5 2.0
fitted_values_tobins_q
Figure 4.2: Residuals vs fitted values for the regression with log(Tobin’s q) as
dependent variable and ESG score as variable of interest.
Model diagnostics
0.50
residuals_return
0.25
0.00
−0.25
−0.50
−0.2 0.0 0.2 0.4
fitted_values_return
Figure 4.3: Residuals vs fitted values for the regression with stock returns as
dependent variable and ESG score as variable of interest.
The model diagnostics tests show the same results for the four returns re-
gressions. First, we look at the figure 4.3 with residuals plotted against the
fitted values. In the plot, we do not see clear signs of heteroskedasticity, and
the Breusch-Pagan test does not find significant heteroskedasticity either. In
these residuals, we see no clustering or any signs of non-linearity.
By inspecting the Q-Q plot and histogram of residuals, we can see that the
distribution of residuals has a too heavy upper tail to be normally distributed.
The residuals also look a bit skewed to the left in the histogram. The Shapiro-
Wilk test rejects the hypothesis of normality, in line with our interpretations
of the plots.
The Durbin-Watson test shows no sign of serial correlation. The modified
BFN Durbin-Watson test on the other hand has a value of 1.99 which is very
close to 2, the threshold value for indicating serial correlation (Bhargava,
Franzini, and Narendranathan 1982). The sequential plot of residuals show
some clustering of errors. Due to this and the panel structure of the data, we
have used individual stock clustered errors.
Lastly, none of the independent variables are correlated with the residuals,
and the VIF test does not indicate multicollinearity.
Chapter 5
35
36 CHAPTER 5. DISCUSSION & ANALYSIS
However, our results also differ from some of the previous studies which
used similar methods. For example Velte (2017) presented a significant
positive relation between ESG and ROA, and Dahlberg and Wiklund (2018)
presented a significant relationship between and ESG and Tobin’s q. This
could depend on difference between samples, different types of ESG scores or
a slight variation in method. For example both Velte (2017) and Dahlberg and
Wiklund (2018) used the ESG score provided by Thomson Reuters whilst we
have used the ESG score provided by Sustainalytics. The scoring methods are
not transparent, and can therefore be subjective and differ between providers.
Also the methods used in previous literature may not be exactly the same as
our regression analysis performed. We know for example that we have some
problem with normality in our model diagnostics, which previous studies
have not mentioned. The limitations of our study are further discussed in
section 5.3 below.
To relate our results to the theoretical foundation of why ESG scores could
have an impact on performance, our empirical results can neither strengthen
the stakeholder theory nor the shareholder theory. According to stakeholder
theory, we should expect ESG scores to correlate with financial performance.
According to shareholder theory, CSR activity would be an unnecessary cost
for a company and we should therefore see a negative correlation. As our
results indicate that there should be no difference in financial performance
from investing in low versus high ESG scores, the stakeholder theory is
not supported. But neither is the shareholder theory, since no negative
relationship between high ESG score and financial performance was found.
But we believe that together with previous research, there is a stronger
support for stakeholder theory. For example, Hartzmark and Sussman (2018)
found no link between sustainability score and financial performance of
mutual funds, but they found that investors still value high sustainability
score since the inflow of capital to high sustainable funds was larger than to
lower rated funds, indicating that investors do make choices of where to put
their money based on their ESG profile.
in table 4.1, only the environmental score (E) had a significant coefficient
with log(Tobin’s q) as the dependent variable. The relationship was slightly
negative. Interesting to note is also that although not significant, the gov-
ernance factor (G) seems to have the reverse relationship compared to the
other factors for all three dependent variables.
As our only significant result is the Environmental score (E) in the Tobin’s
q regression, the environmental factor is the one with strongest relation to
financial performance. However, the relation is slightly negative (-0.003),
indicating that environmental aspects has a somewhat negative impact on
market based financial performance. The regression with E and ROA did
not show any significant result, hence this implication does not hold for
accounting based financial performance.
Velte (2017), Han, H. J. Kim, and Yu (2016) and Dahlberg and Wiklund (2018)
have done similar studies and separated E, S and G but their conclusions
differ from ours. Velte (2017) presented a result where all separate ESG
variables had a positive relation to ROA. Han, H. J. Kim, and Yu (2016) found
that governance (G) had the most impact and Dahlberg and Wiklund (2018)
stated that the environmental factor (E) had the most significant positive
relation to Tobin’s q. One can ask why the results differ so much between
the different studies. An explanation could be the samples differ. Velte (2017)
and Han, H. J. Kim, and Yu (2016) have used samples from Germany and
South Korea respectively, quite different from our Nordic sample. In their
studies all data also comes from a single country, while we have data from
four different countries.
Dahlberg and Wiklund (2018) use a sample from the Nordic countries, a
very similar sample compared to ours. However their presented result is the
opposite of ours, since they found a positive significant relationship of E and
Tobin’s q. This seems strange at first sight, but it might depend on that the
sample used is not exactly the same and above all Dahlberg and Wiklund
(2018) use a different type of ESG score. They used the ESG score from Eikon
by Thomson Reuters and we have used Sustainalytics rank. As mentioned
before, there is no exact standard for measuring sustainability and different
types of ESG score can vary. This could be a possible explanation for why
our results differ so much.
38 CHAPTER 5. DISCUSSION & ANALYSIS
indicate that the regression does not capture all of the relevant information
to explain the response variables.
Conclusion
6.1 Answering the research question
What is the relationship between ESG score and financial performance?
Our empirical result concluded no significant relationship between ESG
score and financial performance, neither market or accounting based. This
indicates that no conclusion can be drawn about financial performance based
on the ESG score.
What part of the ESG score shows the strongest relation to financial per-
formance?
The environmental factor (E) showed the strongest relation to financial per-
formance, however slightly negative and only significant to the log(Tobin’s
q) variable, which means the connection is only seen in one of the measures
of market based financial performance. Since there was only one significant
result found, we do not believe our results should be used to draw any
conclusions about the financial performance of a stock based on the ESG
score components E, S or G.
6.2 Recommendations
Since our research indicates no significant relationship between ESG score
and financial performance, we recommend to invest in the highest ESG
ranked company in the case of choosing between two otherwise similar
stocks.
40
CHAPTER 6. CONCLUSION 41
42
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BIBLIOGRAPHY 45
46
APPENDIX A. REGRESSIONS WITH ESG SCORE 47
Heteroskedasticity test
##
## studentized Breusch-Pagan test
##
## data: fixed_model_ROA
## BP = 9.6523, df = 7, p-value = 0.2091
10
5
residuals_ROA
−5
0 10 20 30 40
fitted_values_ROA
48 APPENDIX A. REGRESSIONS WITH ESG SCORE
5
0
−5
−3 −2 −1 0 1 2 3
Theoretical Quantiles
APPENDIX A. REGRESSIONS WITH ESG SCORE 49
Histogram of residuals
40
30
20
10
−10 −5 0 5 10
residuals_ROA
0
−5
Index
Heteroskedasticity test
##
## studentized Breusch-Pagan test
##
## data: fixed_model_tobins_q
## BP = 30.079, df = 7, p-value = 9.184e-05
0.3
residuals_tobins_q
0.0
−0.3
−0.6
0.0 0.5 1.0 1.5 2.0
fitted_values_tobins_q
APPENDIX A. REGRESSIONS WITH ESG SCORE 53
0.0
−0.6 −0.4 −0.2
−3 −2 −1 0 1 2 3
Theoretical Quantiles
54 APPENDIX A. REGRESSIONS WITH ESG SCORE
Histogram of residuals
40
20
0.0
−0.6 −0.4 −0.2
Index
Heteroskedasticity test
##
## studentized Breusch-Pagan test
##
## data: fixed_model_return
## BP = 9.2258, df = 7, p-value = 0.2368
0.50
0.25
residuals_return
0.00
−0.25
0.2
0.0
−0.4
−3 −2 −1 0 1 2 3
Theoretical Quantiles
APPENDIX A. REGRESSIONS WITH ESG SCORE 59
Histogram of residuals
30
20
10
0.2
0.0
−0.4
Index
List of stocks
Ticker Namn GICS Industri Sector Name
ABB SS Equity ABB Industrials
AKA NO Equity Akastor Energy
ALFA SS Equity Alfa laval Industrials
ALIV SS Equity Autoliv Consumer Discretionary
ASSAB SS Equity Assa Abloy Industrials
ATCOA SS Equity Atlas Copco A Industrials
ATCOB SS Equity Atlas Copco B Industrials
AZN SS Equity Astra Zenica Health Care
BOL SS Equity Boliden Materials
CARLA DC Equity Carlsberg A Consumer Staples
CARLB DC Equity Carlsberg B Consumer Staples
CHR DC Equity Chr hansen Materials
COLOB DC Equity Coloplast Health Care
DANSKE DC Equity Danske Bank Financials
DNB NO Equity DNB Nor Financials
DSV DC Equity DSV Industrials
EKTAB SS Equity Elekta Health Care
ELISA FH Equity Elisa Communication Services
ELUXA SS Equity Eletrulux A Consumer Discretionary
ELUXB SS Equity Elektrulux B Consumer Discretionary
EQNR NO Equity Equinor Energy
ERICA SS Equity Ericsson A Information Technology
ERICB SS Equity Eriscsson B Information Technology
FORTUM FH Equity Fortum Utilities
GEN DC Equity Genmab Health Care
GETIB SS Equity Getinge Health Care
GJF NO Equity Gensidige Försäkring Financials
GR4SEC DC Equity G4S Industrials
HEXAB SS Equity Hexagon Information Technology
HMB SS Equity Hennes Mauritz B Consumer Discretionary
62
APPENDIX B. LIST OF STOCKS 63