Does mitigating environmental, social, and governance reputational risks improve investment efficiency? An international evidence

Abstract

The main objective of this paper is to look into the role that environmental, social, and corporate governance (ESG) reputational risk has on investment efficiency of firms and whether this relationship changes when taking institutional ownership and national governance quality into consideration. Firm-level financial ratios within the study are collected from CompuStat Global and North America annual databases. Using a comprehensive sample of 106,297 observations of 11,123 unique firms in 82 countries between 2007 and 2018, we find that increases in ESG reputational risk is associated with decreases in investment efficiency. These results validate when we use the GMM method and instrument variables to control for endogeneity concerns. Further analysis shows that high levels of institutional ownership and better national governance quality lessens the negative impact of reputational risk on investment efficiency. Overall, we contribute to current literature on investment efficiency by providing a novel factor, ESG reputational risk from ESG incidents in a global context.