Week 3: ESG/firm risk and return to ESG firm value

Question 1

Why are ESG ratings higher in civil law countries (3 reasons)
A study says that the legal origin the strongest explanation of ESG performance is (than other firm and country characteristics)
Scandinavian law countries > Civil law countries > common law countries

Answer 1

• Lower risk of shareholder litigation
• Stronger state involvement
• Stronger regulations on stakeholder welfare

Question 2

How does ESG performance create shareholder value? (4 reasons)

Answer 2

improve reputation, better relation with employees (higher productivity), reducing cost of capital, increasing demand for shares

Question 3

How does ESG performance reduce shareholder value?

Answer 3

imposing unnecessary costs, better managerial reputation at expense of firm performance

Question 4

How does ESG performance affect corporate risk?

Answer 4

1. negative on systematic risk (higher resilience during crisis periods, lower price elasticity of demand, more efficient production)
2. positively credit rating (bondholders care about downside risk)
3. negatively legal risk (more lenient settlements form prosecutors)

Question 5

What is the impact of ESG on M&As?

Answer 5

Acquirers with good ESG ratings have more favorable stock price reactions to the announcements of their deals, a higher likelihood of deal completion, and better performance after the deal. Better relations with stakeholders facilitate post-merger integration.

Question 6

What is the impact of ESG on SEOs?

Answer 6

Equity offering firms with good ESG ratings have more favorable stock price reactions to the announcements of their equity offerings. But they do not use the offering proceeds to generate value. Investors seem fooled by high ESG ratings!

Question 7

What is the impact of ESG on CEO pay?

Answer 7

Some studies find a negative association between executive compensation and (excess) ESG performance, others find no relation.

Question 8

Can you name an ethical scandal and how you can show causality

Answer 8

Leicester sweatshop/Boohoo (from investor viewpoint) causality can be shown via event study

Question 9

What are 3 implications from the following findings from Edman’s research?
“100 best companies to work for in America” earned an annual four-factor alpha of 3.5% from 1984 to 2009, and 2.1% above industry benchmarks. Also, significantly more positive earnings surprises and announcement returns.

Does the stock market fully value Intangibles?Employee satisfaction and equity prices
(Edmans, 2011)

Answer 9

1. Consistent with human capital-centered theories of the firm, employee satisfaction is positively correlated with shareholder returns and need not represent managerial slack.
2. Stock market does not fully value intangibles, even when independently verified by a highly public survey on large firms.
3. Certain socially responsible investing (SRI) screens may improve investment returns.