Do ESG factors influence firm valuation?
Franck Bancel, Dejan Glavas and Andrew Karolyi surveyed 303 finance professionals, both fund managers within corporates and fund managers to understand how practitioners are integrating ESG into valuations.
The study found that a large majority of respondents use ESG data to value firms and stress a few key conclusions:
- This process is mostly led by outsiders (shareholders and debtholders) rather than insiders (managers).This process is mostly led by outsiders (shareholders and debtholders) rather than insiders (managers).
- Data quality is not a key driver of the link between ESG performance and valuation.Data quality is not a key driver of the link between ESG performance and valuation.
- Activity sector does not seem to play a major role in linking valuation and ESG either.Activity sector does not seem to play a major role in linking valuation and ESG either.
- Practitioners integrate ESG factors into valuation by adjusting the discount rate of their DCF models rather than the cash flow components.Practitioners integrate ESG factors into valuation by adjusting the discount rate of their DCF models rather than the cash flow components.
- Practitioners establish causal links from ESG to financial results, but rarely the other way around.Practitioners establish causal links from ESG to financial results, but rarely the other way around.
- Environmental and social factors are more material in the adjustment of DCF models than governance factors.Environmental and social factors are more material in the adjustment of DCF models than governance factors.
The authors also observe that investors that are under more regulatory pressure are more likely to integrate ESG factors into their valuation models.
They advocate for regulations and incentives to improve corporate disclosure and foster extra-financial reporting standardisation, as it should lead to a better integration of ESG into corporate valuation.The authors also observe that investors that are under more regulatory pressure are more likely to integrate ESG factors into their valuation models.
They advocate for regulations and incentives to improve corporate disclosure and foster extra-financial reporting standardisation, as it should lead to a better integration of ESG into corporate valuation.