Corporate environmental performance and corporate financial performance: empirical evidence from the United Kingdom.

Abstract

The concept of environmental management and its related issues have received heightened attention in global discussions due to climate change, global warming and other environmental challenges over the last three decades. To abate and avert these challenges, efficient environmental processes, strategies, policies, initiatives and practices have been adopted by some companies and countries. As a result, research scholars have also highlighted the financial implication of engaging in such environmental management activities and have advanced investigations to understand the relationship between corporate environmental performance (CEP) and corporate financial performance (CFP). Nonetheless, results are inconsistent and contradictory, thus, leaving a gap in the literature that calls for further examination. The primary aim of the study is to examine the relationship between CEP and CFP in listed firms in the UK. There are three sub-specific objectives strategically drafted to contribute to the existing literature on the subject matter. First, to investigate the impact of CEP (i.e., environmental operational performance (EOP) and environmental management performance (EMP)) on corporate financial performance (i.e., accounting-based and market-based measures) in the various sectors from 2009 to 2015. Second, to investigate the non-linear relationship between environmental operational performance and corporate financial performance in the carbon and non-carbon intensive sectors. Lastly, to explore the extent to which EOP mediates the relationship between environmental management performance and CFP. In order to achieve the above-mentioned objectives, the study used a sample size of 196 listed firms on the Financial Times Stock Exchange (FTSE) All-Share Index from the year 2009 to 2015. The secondary data examined in the study was sourced from ASSET4 Environmental, Social and Governance (ESG), Companies‘ Annual Reports and DataStream. To begin with the analysis, an econometric model was developed to establish the correlation between the dependent variables (i.e., financial performance indicators) and the independent variables (i.e., EOP and EMP) with the use of Stata statistical tool. After which, the panel data regression fixed effect was utilised to explore the actual relationship between CEP and CFP. The descriptive results from the analysis indicate that financial and industrial firms are the most dominant sectors represented in the sample. Despite its dominance in the sample, some existing studies seem to validate the opinion that including financial firms in analysis such as this would invalidate the final results due to their different reporting styles. In order to examine and provide empirical evidence regarding those arguments, the study further investigated the CEP-CFP relationship exclusively and inclusively of the financial sector. After such exploration, it was found that indeed excluding and including financial firms from the overall study sample did have significant impact on the overall results. For instance, when financial firms were included in the sample, ROS was not statistically significant in relation to any of the EOP measures. However, upon exclusion of the financial firms, scope 1 emissions were found to be significantly and positively associated with ROS. These results provide confirmatory evidence that indeed including/excluding financial firms in studies relating to environmental performance has to be done with the necessary caution. The panel regression tests also revealed that Greenhouse Gas (GHG) emission, which is a measurement proxy for EOP, should be examined in their separate scopes and not together. The results support the multi-dimensional construct hypothesis emphasised in this study. It was also found that each scope of GHG emission affects accounting and market-based financial performance measures differently. Furthermore, grouping firms into carbon-intensive and non- carbon intensive showed a different perspective of the EOP and CFP relationship. In other words, a non-linear relationship was found for most of the EOP measures including Scope 1 and 2 GHG emissions, resource use reduction and water consumption when tested with the financial performance measures. Additionally, when the mediation effect was tested, it was discovered that only the two scopes of GHG emissions out of the four environmental operational performance measures employed in this study mediated the EMP and CFP relationship. Regarding the EMP and CFP relationship, environmental policies, monitoring, processes and management systems were found to be signifcantly related with CFP. It was also discovered that scope 1 fully mediated the association between environmental policies, monitoring, management systems and Returns on Assets (ROA), Returns on Capital Employed (ROCE) and Stock Price. Likewise, scope 2 also demonstrated a full mediation effect on the relationship between environmental policies, monitoring, management systems, processes and Stock Price, ROCE and Returns on Sales (ROS). The study contributes knowledge to existing literature and studies in a number of ways. First, the segregation of total GHG emissions into the individual scopes has brought additional insights into the policy development of GHG emissions reduction. For instance, there is evidence that scope 1 emissions are positively related to ROS whereas scope 2 emissions have a significant adverse impact. However, when financial firms were included in the sample, scope 2 showed a positive link with financial performance while scope 1 rather revealed a negative association with CFP. This suggests the need for the various sectors to advance different policies if they expect to improve their financial performance. Furthermore, the results enrich the literature on non-linear relationships between environmental performance and CFP. The current study‘s distinction of the non- linear relationship between carbon intensive and non-carbon intensive firms will help inform management in those sectors on the specific operational performance to focus on and how to utilise such relationship for enhanced performance. Lastly, the study contributes to the CEP literature by indicating the interrelationship between environmental operational and environmental management performance. Such mediated association will help researchers to appreciate the need to use both dimensions of CEP in order to ascertain the robust relationship that exists between both performances.