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Keeping you in-the-know on environmental, social and governance developments

Decades ago, sustainability professionals were grasping at straws to prove the economic value of our efforts, activities and costs. As one of those people serving the Kool-Aid back then, I can throw stones. One particular study in 1997 claimed a company’s cost of capital could be reduced 1% (i.e., from 10% to 9%) by implementing an environmental management system. At the time, I worked at Georgia-Pacific Corp. We were in the midst of a company-wide focus on cost of capital, so the study resonated with me – but it didn’t make sense. I figured I wasn’t smart enough to “get it” – turns out, the claims just weren’t real.

Since then, dozens – if not hundreds – of studies have been published claiming causal links between sustainability, CSR, ESG and alpha (Wall Street talk for “beating the market” or “excess returns”). Fortunately, more experts are applying critical thinking and backtesting to those works. Alex Edmans from the London Business School is one well-known critic (check out his website for some thought-provoking work). Columbia University’s accounting professor Shivaram Rajgopal is similarly debunking previous outsized claims of alpha. And recently, Andy King, a professor of business strategy at Boston University, gained publicity for questioning ESG alpha. Bloomberg wrote last week:

“In decades of analyzing whether companies could profitably reduce their harm to the environment, King had found the financial gains were often too small to affect the bottom line. Digging into the latest research, scrutinizing complex mathematical formulas and parsing tens of thousands of data points, he discovered what he says are flaws that skewed the results. ‘The evidence supporting ESG just wasn’t solid,’ King says.”

This is important because executives and investors paid more attention to these studies than you might expect – likely influencing demands on companies they manage and in which they invest. One study by Mozaffar Khan (then a professor at University of Minnesota), Harvard Business professor George Serafeim and Northwestern University’s Aaron Yoon has been referenced by

“finance heavyweights such as BlackRock Inc. and Morgan Stanley and cited more than 400 times, putting it in the top 1% of economic and business papers published [in 2015], according to academic research database Web of Science. King and [Luca Berchicci, a professor at Erasmus University Rotterdam] replicated the analysis, running the data through more than 400 statistical models and using artificial intelligence to check the results. In the vast majority of cases, there was no evidence linking a company’s ESG ratings and its stock performance, they wrote in a 2022 paper published in the Journal of Financial Reporting. ‘Their analysis is meaningless,’ King says.”

On the other hand, the new analyses do confirm sustainability/ESG brings value in operational benefits and fundamentals. What does this mean to ESG/sustainability professionals in the trenches, CSOs and external advisors? It means you should probably stop thinking about ESG alpha and focus on simple operational business value. Last month, I started an “occasional blog series” on that which will continue later this week. Sure, it isn’t as sexy as alpha – but it could help you keep your job. Stay tuned.

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The Editor

Lawrence Heim has been practicing in the field of ESG management for almost 40 years. He began his career as a legal assistant in the Environmental Practice of Vinson & Elkins working for a partner who is nationally recognized and an adjunct professor of environmental law at the University of Texas Law School. He moved into technical environmental consulting with ENSR Consulting & Engineering at the height of environmental regulatory development, working across a range of disciplines. He was one… View Profile