[SKBI Newsletter] ESG Information: Impacts and Incentives | DEC 2024

SKBI Newsletter | December 2024  

ESG Information: Impacts and Incentives

Research Perspective

Industry Insights

Tianhao Yao
Assistant Professor of Finance
at SMU

Priscilla Lu
Vice Chair of Renewable Infrastructure and Clean Private Equity at Schroders Capital Infrastructure Asia

Environmental, social, and governance (ESG) issues have received increasing attention and are now a common theme in asset management. However, the extent to which ESG information impacts firm value and its mechanisms remains a topic of ongoing debate. An existing SMU study delves into this controversy by investigating how negative ESG news—an important example of ESG information—affects analysts’ views on firms.

ESG information has become increasingly important.  Earlier this year, Chee Hong Tat, Minister for Transport and Second Minister for Finance, announced that all listed companies in Singapore will be required to make climate-related disclosures starting in the financial year 2025. We recently spoke to Priscilla Lu, who shared with us her thoughts on ESG information disclosure and related firm incentives.

Key Messages:

• Following negative ESG news, analysts significantly downgrade their earnings forecasts over both short and long horizons.
• Such negative revisions reflect expectations of lower future sales rather than higher future costs. In other words, the main impact of negative ESG news is to reduce the cash flows that the firm can generate.
• Forecast revisions also explain most of the negative impact of ESG news on firm value. Thus, analysts’ recognition of ESG concerns aligns with the market evaluation of firms.
• Analysts are correct in downward adjusting earnings forecasts: Firms experiencing negative ESG news have a lower future realized earnings.

Overall,  ESG information seems to affect firm operations and firm value mainly through a “cash flow channel.” Avoiding ESG incidents is also an important risk management concern for companies.

DERRIN, Francois; KRUEGER, Philipp; LANDIER, Augustin; and YAO, Tianhao. 2024. ESG news, future cash flows, and firm value. Journal of Finance, conditionally accepted.

Key Challenges:

• For now, most available ESG information comes from the mandatory disclosures of firms. The problem is that firms may lack intrinsic incentives to disclose important, yet non-mandatory, information.
• More abundant ESG information will allow for more efficient use of resources to achieve the targeted green transition.  Hence, it is crucial to shift the driving force of ESG information from extrinsic to intrinsic.
• To stimulate intrinsic incentives, firms must benefit from voluntary ESG disclosure. This way, stakeholders of firms will be willing to join this sustainability bandwagon.
• We need researchers to investigate and verify the potential of these benefits, such as efficiency gains and financial benefits. 

With this, Priscilla hopes to see that “more companies will recognize the benefits that disclosure and green transition can have on their firms in the long run.”

Meet the Author:
Asst Prof Tianhao Yao joined SMU in 2023 after completing a PhD in Finance from HEC Paris. His research interests include corporate finance, environmental, social, and governance issues, sustainable finance, and asset management.

Meet the Expert:
Dr Priscilla Lu is the Vice Chair of Renewable Infrastructure and Clean Private Equity at Schroders Capital Infrastructure Asia. Prior to this, she was Head of Sustainable Investments at Deutsche Bank DWS Asset Management Sustainable Investments Group. She holds a PhD from Northwestern University. She has been on the SKBI Advisory Board since 2019.

About SKBI:

The Sim Kee Boon Institute generates financial economic research through multidisciplinary collaborations involving not only the SMU community, but also research talent from around the world as well as industry and public-sector partners. The Institute will focus its efforts on the areas of (1) Market Innovations and FinTech, (2) Sustainability and Green Finance, and (3) Household Finance and Behaviour. To maintain relevance to finance practitioners and policy-makers, SKBI also adopts a view on Asian and global economic trends. View SKBI’s research. 

About the SKBI Newsletter:

This monthly newsletter provides a unique platform to connect academic researchers and industry experts. It aims to enhance the outreach of academic studies, while fostering dialogue on key insights and challenges and stimulating new ideas and collaborations.

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