Ri investors reward_environmental_results


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Ri investors reward_environmental_results

  1. 1. research insightsInvestors Reward Environmental Results –Not TargetsCompanies that show real results in environmental used or emissions generated. Process-basedperformance – such as lower carbon emissions – environmental performance describes the firm’sreceive a premium from investors. internal efforts to anticipate, manage or respond to environmental concerns, such as setting targets orFor decades, researchers have tried to answer announcing an environmental strategy.the question “Does it pay for companies to begreen?” and the studies have provided conflictingresults. Some studies show strong environmental “... lowering carbonperformance leads to strong financial emissions did not directlyperformance; other studies, however, suggestenvironmental performance has no effect – or affect a company’s valuesometimes even a negative effect – on financialperformance. on paper, but it did affectTimo Busch and Volker Hoffman of Swiss how much investorsuniversity ETH Zurich were intrigued by theseconflicting results. The researchers conducted were willing to pay for thea nuanced study of the relationship between company’s stock.”environmental and financial performance,examining 174 energy-intensive companies withlarge market capitalization in the Dow Jones Investors Pay for Environmental ResultsGlobal Index. When the researchers measured return on equity (shareholder return) and return on assetsMateriality Matters (how efficiently the assets produce income) theyFirst, the researchers distinguished between found no correlation between a firm’s financialtwo kinds of environmental issues that matter to performance and environmental performance.investors: issues that have a material effect on the They did find, however, that firms with lowercompany (such as air pollution in regions where carbon emissions had higher Tobin’s q than theirpollution is taxed) and issues that do not have a more carbon-intensive peers. Tobin’s q is a ratiomaterial effect (such as assessing eco-efficiency, that captures the difference between a publicwithout actively managing it). In particular, they company’s market and book values. In otherfocused on carbon emissions as a material issue words, lowering carbon emissions did not directlyto study. affect a company’s value on paper, but it did affect how much investors were willing to pay for theResults versus Targets company’s stock.Next, the researchers defined environmentalperformance two ways: one way based on The researchers theorize that, as companiesoutcomes, or results, and the other based on improve their operational efficiency and satisfyprocess. Outcome-based performance refers to concerns about environmental impact, investorreductions in energy consumed, raw materials satisfaction increases. In the current business
  2. 2. research insightsclimate, investors are anxious to see companies The Takeawayreduce the likelihood of environmental risks If you want your environmental efforts to positivelyand sanctions and increase their attractiveness affect your company’s financial standing:to environmentally conscious consumers andinvestors. When a firm satisfies these concerns 1. Choose an environmental issue that has aits perceived value increases and demand for its material effect on your business;stock goes up. 2. Focus on attaining real improvements in the chosen area (e.g. reduce carbon emissions).“... not only did activities When you do these two things, investorsuch as setting emissions satisfaction increases. Your company’s “intangible value” increases as investors award you with antargets fail to generate environmental premium, and demand increases for opportunity to invest in your company.good returns for investors– they also failed to drive The researchers do not suggest, however, that companies abandon process-based activitiesinvestor demand.” such as target-setting and environmental planning: these activities are crucial to achieving the real results investors value. Their findings just revealThe study found companies with process- that a splashy public announcement about yourbased outcomes such as emissions targets had plans to become carbon neutral, for example,significantly lower return on equity and Tobin’s won’t send investors flocking to buy your stock.q. In other words, not only did activities such as The researchers note that, as environmental issuessetting emissions targets fail to generate good become more acute, this may change and, in thereturns for investors – they also failed to drive future, investors may start awarding premiums forinvestor demand. This is likely because process- both environmental results and targets.based activities often add immediate costswithout providing evidence for shareholders thatcosts will eventually decrease and environmentalresults will improve. This result is in keeping withstandard economic theory that stresses costminimization as a key to financial performance.The researchers conclude that investors evaluatedifferent forms of environmental performance indifferent ways. When firms focus on improvingactual outcomes, investors respond by awardingthe firm with a “premium” in the form of increaseddemand. When firms focus on process wherethe actual outcomes remain uncertain—theanticipation and management of environmentalissues—investors do not reward them.Source: Busch, T. and Hoffmann V. “How Hot is Your Bottom Line? Linking Carbon and Financial Performance.” September 2012Business & Society 50(2) 233-265.Summary: Lisa Richmond and the NBS team