ESG Scores & Their Relevance In The Indian Context

ESG is an acronym for Environmental, Social, and Governance and reflects a set of parameters encompassing board diversity, carbon emissions, and remuneration policy among others. There is an increasing trend of investors using such criteria to make their investments. The meteoric rise of ESG-focused investments is a testament to a strong emerging trend in a global context. For instance, total ESG investable assets are expected to surpass $53 trillion by the end of 2025. This roughly makes around one-third of total AUM which is roughly estimated to reach around USD 140.5 trillion.[1] This raises an important question as to whether ESG activities add value to the firm. Most of the evidence on the subject is largely anecdotal with limited empirical evidence supporting the argument that ESG leads to better performance. The advocates of ESG argue that these firms are characterized by lower potential conflicts with society leading to lower cost of doing business, higher stakeholder loyalty, better management quality, etc. 

In this article, the relevance of ESG is empirically investigated from the Indian context. The different sectors, namely, utilities, technology, real estate, etc. have been considered from Refinitiv Eikon Database, for the time period 2017-2021. The firm’s performance is measured by Tobin’s Q and Return on Assets (ROA).  The mean ESG scores and the sectors’ performance are provided in Table 1. It can be observed that the ESG scores of certain sectors are better.    For instance, the mean ESG-related scores is the highest for Technology sector followed by the Basic materials sector. The Real Estate sector has the lowest ESG score. Further analysis was performed by sorting the portfolio consisting of top 30 per cent and bottom 30 per cent the of ESG scores and are plotted against the corresponding firms’ performance (Figure 1).  

Table 1: Sector-wise ESG scores (2017-2021)

The ESG Combined Score provides a rounded and comprehensive evaluation of a company’s ESG performance based on the reported information in the ESG pillars, with ESG controversies overlay captured from global media sources (Source: Refinitiv Eikon).

Figure 1: Performance of Top vs Bottom ESG portfolios (Top 30 per cent ESG firm vis-à-vis Bottom 30 per cent ESG firms)

The analysis reveals that firms with higher ESG scores perform better as compared to firms with lower ESG scores.  In other words, this indicates that Indian companies with better ESG scores translate into better firm performance. Companies that incorporate ESG metrics create a highly transparent mechanism and hence, investors can identify companies that are likely to outperform other companies in the long run. 

Wajahat Azmi

Guest Author Wajahat Azmi is a faculty from Thiagarajar School of Management

Narend. Subramanian

Guest Author Narend. S is a faculty from the Thiagarajar School of Management. Subramanian is a vastly experienced finance industry practitioner with more than two decades of experience in some of the world’s leading financial institutions and consultancies. He was Vice President at Barclays heading the Rates Linear team predominantly focusing on interest rate derivatives