Global Business and Management Research: An International Journal

Vol. 10, No. 3 (2018, Special Issue)

A Literature Review on the Impact of Environmental,

Social and Governance (ESG) Disclosure on Financial
Performance of Energy Companies in Asean

Sarannya Kengkathran*
College of Graduate Studies, Universiti Tenaga Nasional, Malaysia
Email: sarannya_94@yahoo.com
* Corresponding Author

Abstract
Purpose: Due to lack of industry studies, being among the early adopters and also uncertainty in
the level of ESG disclosure for ASEAN countries, this paper aims to fill this literature gap by
examining the importance of Environmental, Social and Governance (ESG) disclosure and the
impact on financial performance of energy companies in Association of Southeast Asian Nations
(ASEAN).
Design/methodology/approach: The author proposes a conceptual paper aimed to provide a
framework for investigating the disclosure and practices of ESG regulations, enhance the theories
and determine the long-term impact of ESG disclosure on financial performance of energy
companies in ASEAN.
Findings: It portrays that there are both positive and negative relationships between ESG
disclosure and financial performance of energy companies in ASEAN. Thus, the author provides
a conceptual paper on the relationship between the Environmental, Social and Governance (ESG)
disclosure and financial performance of energy companies in Association of Southeast Asian
Nations (ASEAN).
Originality/value: The author’s perspective on the importance of disclosure and practices of
ESG regulations, enhancing the theories and determining the long-term impact of ESG disclosure
on financial performance of energy companies in ASEAN is a topic of significant interest for the
body of knowledge, practitioners and policy makers.
Keywords: Environmental. Social and governance (ESG), Association of Southeast Asian
Nations (ASEAN), Corporate Social Responsibility (CSR), Company financial performance
(CFP), ESG disclosure

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Introduction
In the present years, investors and policy makers have been seeking for the ESG information
attentively as they increasingly recognize that the additional non-financial information
contributes to the long-term sustainable performance of companies (Jitmaneeroj, 2016). Despite
having many companies conscious of the development of ESG disclosure and striving to provide
investors with non-financial information, most companies have an alternative way of reporting
because there is no specific disclosure regulation for ESG information.
At the company level, ESG disclosure could be known as a comprehensive occurrence that
influences the way a business is managed, and covers hiring as well as environmental factors and
community evolution campaigns (Frynas, 2005). There are also many standards, guidelines and
conventions that companies are expected to follow in order to gain the essential trust of their key
stakeholders (Streimikiene, Simanaviciene, and Kovaliov, 2009). ESG disclosure is possibly the
most clearly visible through sustainability reporting in which energy-industry companies being
among the early adopters (Hughey and Sulkowski, 2012).

Some past studies compared the performance of socially responsible investments and
conventional investment. For example, Sauer (1997), Statman, (2000), and Schroder (2007)
showed that there is no significant outperformance or underperformance of sustainability indices
over the market indices while (Cheung, Jiang, Limpaphayom and Lu, 2010) argued that ESG
disclosure is positively correlated with company value. The community relations screen yielded
higher financial performance while the environmental and labour screens reduced financial
performance (Barnett and Salomon, 2006). This shows that different aspects of company social
performance have different financial implications for companies and investors.

Literature Review

The Importance of ESG Disclosure

ESG index are created to show additional aspects of companies’ performance, which are not
reflected in accounting information (Bassen and Kovacs, 2008). ESG disclosure has eventually
been included in most companies’ non-financial communication (Arvidsson, 2010). Thus, a
researcher claimed that the ESG indicator is not only the key indicator for the companies’ non-
financial performance, but it is also commonly used to assess competencies of companies’
management as well as to support risk management (Galbreath, 2013).

Although there is some existing literature on companies’ financial performance in relation to

socially responsible perspective (Margolis and Walsh, 2003) but some researchers claim that
there is a lack of studies focusing on one specific industry (Barnett, 2007; Soana, 2011). Past
researchers also claim that companies have different strategies to cater for ESG and the impact of
ESG disclosure on companies’ financial performance differs too (Bauer, Frijns, Otten and
Tourani-Rad, 2008; Padgett and Galan, 2010).

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There are also limited studies taking into account all the dimension of ESG in which it does not
portray a broad picture of the overall ESG score’s impact (Galbreath, 2013). There are many
research emphasizing only on ESG perspective (including social and environmental perspective),
and usually abandon the governance aspect. Besides that, a lot of previous research is done in the
form of event-studies. For example, events such as ESG, clipping of newspaper, and
environmental performance awards are explored. The market response to such events is examined
by studying stock market interpretation, but these studies do not bother the impact on company
performance in the long term (Arya and Zhang, 2009; Flammer, 2013).

The global reporting for sustainability disclosure in the Association of Southeast Asian Nations
(ASEAN, 2016) shows each ASEAN countries have a different ESG and sustainability
landscape, with some having established policies and practices while others are developing their
approach. It is clear that expectations exist throughout the majority of ASEAN countries, where
more than half are showing mandatory disclosures either already in force to some stage or on the
regulatory perspective illustrated in Table 1:
Table 1: Summary of the current landscape

Due to lack of industry studies, being among the early adopters and also uncertainty in the level
of ESG disclosure for ASEAN countries, there is a gap found in which this research specifically
decide to focus on the energy-related companies which is of particular interest looking at current
ESG issues surrounding the industry, e.g. social issues with child labour, environmental issues
with product life-cycle problems, and even corporate governance scandals with polemic around
CEO remuneration and the non-respect of shareholders rights (MacLeans, 2013). Hence, by
evaluating the level and type of ESG information disclosed in the companies’ annual report, the
research provides a contribution to investigate the relationship of ESG disclosure on the energy-
related companies’ financial performance in ASEAN.
Environmental, Social and Governance (ESG) and Company Financial Performance (CFP)
There are many ways of defining environmental, social and governance (ESG). ESG has created
remarkable discussion in academic and business world (Jamali and Mirshak, 2007). Thus, the
discussion mentioned by Jamali and Mirshak (2007) above recognises the significance of ESG in
the first-world, but rise queries concerning the level to which companies operating in developing

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countries have ESG agreement. Despite that, there is some difference, in most cases ESG has
similar understanding as corporate social responsibility (CSR) (Aust, 2013).
Besides that, ESG is a commercial ideology acquiring popularity in this current century (Vintila
and Duca, 2013). The definition of ESG is not obscure. ESG is also the proceeding dedication by
commerce to act ethically and contribute to economic growth while improving the standard of
life of the employees and their families as well as the people around them (Vintila and Duca,
2013). ESG activities may include humanitarian affairs to the local people, environment and
worldwide company such as fundraising, contribution in money and contribution in kind. In
addition to that, ESG is also defined as the discretionary activities handled by a company to
manage in an economic, social and environmentally sustainability way (Vintila and Duca, 2013).
The global issues such as the disturbing amount of scandals concerning corruption and the
growing rate of poverty have placed ASEAN countries in the sustainability spotlight (ESG Asia,
2011). The governments and policy makers of the various countries are also increasingly
concerned with the activities of businesses that could affect the society as a whole. For example,
in developed ASEAN countries like Singapore, governments created programs and incentives for
companies who are involved in sustainable development. Singapore has over 30 government
programs including a wide range of energy and water efficiency, transportation and other
environmental innovation projects (CSR Digest, 2009).
In recent years, companies in the ASEAN region are more aware of the ESG disclosure
frameworks such as Global Reporting Initiative (GRI), United Nations Global Compact (UNGC)
and International Organisation for Standardisation (ISO) 26000. These frameworks intend to
institutionalize ESG on a global level through the creations of norms, rules and procedures for
ESG. However, since sustainability disclosure is still a voluntary practice in ASEAN today,
transnational regulatory bodies such as ASEAN face many challenges in promoting ESG
disclosure due to the lack of direct power to penetrate national law (Brammer, Jackson and
Matten, 2012; Aguilera, Rupp, Williams and Ganapathi, 2007).
The challenges of handling and enforcing ESG in the energy sector are many and various which
includes the overall value, a lack of fact and awareness, inadequate human sources, susceptible
co-operation with stakeholders, failure to contain the beneficiaries and to combine ESG activities
into larger improvement plans, and an excessive focus on technical and managerial answers
(Frynas, 2005). Furthermore, the excessive fee of energy on the subject of low common earnings
reduces the willingness to pay an even better rate for green energy is also considered part of the
challenges. Thus, ESG activities have been conducted by companies to improve their relationship
with their stakeholders (Barnet, 2007). Stakeholder theory actually prevails the moral and ethical
values in management of a company. It is considered a significant theory which will help users to
understand the nature of ESG.

There is a big selection of research focusing on ESG within the context of the energy sector but
research examining the ESG-CFP hyperlink among energy companies is scarce, and there are
best two which are (Patari, Jantunen, Kylaheiko and Sandstrom, 2012) who analysed 210 energy

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companies worldwide and determined proof of a positive relationship among sustainable

improvement and the companies’ financial overall performance, particularly while performance
being measured as the marketplace-capitalization value whereas contrarily (Ekatah, Samy,
Bampton and Halabi, 2011) used a case study perspective and their outcomes also indicated that
socially responsible company performance can be related to profitability.
Measuring CFP is not simple because of the many debates concerning which measurement
should be applied. There are opinions as regards the market measures being the right ones
(Alexander and Buchholz, 1978) while other researchers’ considered the accounting measures are
the good ones (Cochran and Wood, 1984; Waddock and Graves, 1997) and some underlined that
the use of both of these measures is appropriate for CFP (McGuire, Sundgren and Schneeweis,
1988). Market and accounting measures are debated in literature because each evaluate CFP
differently and have also different theoretical meaning (Hillman and Keim, 2001) being each
subject to a particular biases (Mcguire, Schneeweis and Hill, 1986). In the recent past the
accounting measures helped the analyst to project its future profitability, and the expected return
from investing in the company’s equity securities whereas the market measure can be used to
compare the company’s market value or share price to the company’s fundamentals of
profitability and growth (Masa’deh, Tayeh, Al-Jarrah and Tarhini, 2015). Thus, the present study
considered three accounting measures, such as Return on Assets (ROA), Return on Equity (ROE)
and Net Profit Margin (NPM).
Return on Assets (ROA) is used to measure the effectiveness of the business enterprise in
producing income by way of exploiting its property (Prastowo, 2002). This ratio may provide an
indication of exact or horrific neighbour management in implementing price manage or control of
his assets. Return on Equity (ROE) indicates the quantity to which companies manage their
personal capital (net well worth) successfully, measure the profitability of the investment that has
been made proprietors in their own capital or shareholders of the business enterprise. The higher
the ratio Return on Equity (ROE) will hike the income growth (Ang, 2001). The greater the ratio
of net profit margin, the better for being role in the company's ability to profit quite high
(Harahap, 2007). The higher Net Profit Margin (NPM) showed that increasing the company
achieved net profit to net sales.
Research Strategy
The research strategy consists of one main phase: which is created to address the central research
questions and achieve the research objectives. The research strategy is illustrated in Figure 1.

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Figure 1: Research Strategy

ESG measurement concepts will be identified from four main sources: the literature on ESG,
ESG reporting and disclosure practices, ESG components or elements and ESG measurement
methodologies. CFP measurement concepts will be identified from three main sources: the
accounting vs market- based measures, industry level measures and qualitative measures. Both
the ESG measurement concepts and CFP measurement concepts eventually portrays the impact
of ESG disclosure on CFP of energy companies in ASEAN countries.

Discussions and Conclusion

There is a positive relationship between ESG score and Return on Assets (ROA) (Prastowo,
2002). Besides, (Brigham and Houston, 2005) also supported that there is a positive effect of the
ESG score on the company financial performance. On the contrary, they also supported that the
ESG score affects the Return on Assets (ROA) of energy related companies in ASEAN. The
higher the involvement of energy companies in ESG activities, the higher the Return on Equity
(ROE) (Ang, 2001). ROE indicates the management’s success or failure at maximizing the return
to stockholders based on their investment in the company (Alexander and Nobes, 2001). There is
a significant relationship between ESG score and Net Profit Margin (NPM) (Harahap, 2007). The
higher the ESG score of the energy companies, the greater the Net Profit Margin (NPM) (Irawan,
2011).

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In conclusion, this research contributes to the body of knowledge by providing evidence

regarding the importance of ESG disclosure that are affecting the energy-related companies’
financial performance because companies today are more concerned on their financial goals. The
findings will influence the fundamentals of energy-related companies’ consideration in decision
making to invest on ESG activities and to disclose it in their financial annual report. For instance,
the advantage of having more independent directors in a company may result in high willingness
of the company to invest on ESG activities. This may also provide a guideline for other
companies besides the energy-related companies. As for practitioners, this scenario will perhaps
become a challenge for them to carry out more ESG activities and to disclose it in their financial
annual report. The research will provide essential verification on the necessity of reviewing the
existing standards and regulations. For instance, the government should revise their regulations in
terms of providing more incentives to encourage companies in carrying out ESG activities.
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