ESG ratings and corporate financial performance in South Africa

PurposeThis paper examines the effect of ESG ratings and its dimensions (environmental, social and governance) on the financial performance of JSE-listed firms included in FTSE/JSE Responsible Investment Index.Design/methodology/approachThe paper employs panel data covering 40 JSE-listed firms included in FTSE/JSE Responsible Investment Index between 2015 and 2019. The paper employs the two-stage least squares (2SLS) instrumental variable regression technique to estimate the effect of ESG ratings and its dimensions (environmental, social and governance) on both accounting- and market-based performance indicators.FindingsThe results of the two-stage least squares instrumental estimation analysis reveal that investment in ESG initiatives improves both accounting- and market-based indicators of financial performance. Of the ESG pillars, the paper finds environmental initiatives improves firms' financial bottom line and market performance, while a firm's social and governance practices are observed to have no effect on a firm's accounting and market performance measures.Practical implicationsThe insights from this study proffers policy implications for firms' management, investors and regulatory authorities.Originality/valueAs far as the authors are concerned, this paper presents the first empirical analysis on the contribution of ESG ratings on financial performance in South Africa.