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Banke, M.;  Lenger, S.;  Pott, C. ESG Ratings. Encyclopedia. Available online: https://encyclopedia.pub/entry/26635 (accessed on 08 July 2024).
Banke M,  Lenger S,  Pott C. ESG Ratings. Encyclopedia. Available at: https://encyclopedia.pub/entry/26635. Accessed July 08, 2024.
Banke, Marius, Stephanie Lenger, Christiane Pott. "ESG Ratings" Encyclopedia, https://encyclopedia.pub/entry/26635 (accessed July 08, 2024).
Banke, M.,  Lenger, S., & Pott, C. (2022, August 29). ESG Ratings. In Encyclopedia. https://encyclopedia.pub/entry/26635
Banke, Marius, et al. "ESG Ratings." Encyclopedia. Web. 29 August, 2022.
ESG Ratings
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Sustainability and responsibility in the case of environmental, social, and corporate governance (ESG) are increasingly in demand and are no longer just a niche topic. Disclosure of ESG rating results is a useful method for reporting companies (compared to non-reporters), as it leads to higher stock prices and better reputations.

: CSR reporting ESG rating reputation disclosure

1. Introduction

Corporate social responsibility (CSR) is a strategy in which environmental and social aspects as economic aspects are assigned equal importance [1] (p. 2). Given the issues of climate change, resource scarcity and social inequality, CSR is playing an increasingly important role in sustainability discussions [2] (p. 1). Investors in the capital market are also showing rising interest in this topic, as CSR performance has become an increasingly relevant investment criterion for many stakeholders [3]. In 2018-2020 the number of sustainable and responsible investments increased by over 15% [4] (p. 5). Additionally, studies have shown that sustainability-related information is relevant for not only investors, but also non-professional stakeholders who show an increasing interest in a sustainable corporate orientation [5][6]. Cheng et al. (2015) noted that society is increasingly considering sustainability while evaluating a company [7]. In this context, studies have found that strong CSR performance has a positive impact on a company’s reputation and can therefore be relevant for its relationship with non-professional stakeholders [8][9]. In connection with the rising demand for CSR, interest in sustainability information has also been growing. Companies use business and sustainability reports to maintain the legitimacy of their business models. By communicating their CSR strategies, CSR goals and the nonfinancial impacts of their corporate activities, companies can signal their responsibility to stakeholders [10].
Since the implementation of the EU CSR Directive 2014/95/EU into national law, sustainability reporting has become mandatory for large capital-market-oriented companies in Germany. However, there is considerable leeway in reporting due to extensive options for selecting frameworks and the wide range of design options for reporting formats and content within these frameworks. Studies have shown that reporting quality varies widely in terms of its scope and depth [11]. Sustainability reports are therefore often only comparable to a limited extent for stakeholders, so it can be difficult or investors to make efficient investment decisions based solely on (inhomogeneous) nonfinancial reports [12] (p. 116). Additionally, due to comprehensive requirements, the nonfinancial reports can comprise several hundred pages, so the risk of information overload exists. It is difficult, especially for non-professional stakeholders, to identify and assess information in terms of quantity and quality. Thus, merely having a sustainability report does not automatically mean that a company is sustainable; companies can use the nonfinancial reporting to engage in a kind of greenwashing and present selected CSR success stories without making fundamental changes to their corporate policy. Waivers concerning the concretization of the report content and the material audit obligation of the reports thus lead to a considerable restriction concerning required transparency. Sustainability ratings, which are produced by rating agencies based on an objective assessment of a company’s sustainability performance, aim to address these problems, and provide stakeholders with useful information [13]. Various rating agencies produce sustainability ratings even without being commissioned to do so by companies. Consequently, a whole range of ESG ratings exist for many listed companies. However, these ratings differ in their outcomes based on different priorities and weight factors [14][15][16]. Therefore, stakeholders must consult a variety of sources to obtain a comprehensive CSR assessment for a company.
Many studies have separately addressed the impact of sustainability reporting and ESG ratings. Some studies have examined the impact of sustainability reporting on financial and corporate performance [17][18][19].

2. ESG Ratings

Generally, ESG ratings of companies serve to inform stakeholders and support them in making decisions regarding sustainable financial products. Ratings also offer great benefits for the rated companies. Moreover, the information highlights the potential for improvement, and problems in the environmental, social and corporate governance areas can be identified at an early stage. Comparability, especially within industries, further advances sustainable development. Companies with good sustainability performance can gain advantages, and a good rating sends positive signals to shareholders and other stakeholders. However, the design options for sustainability ratings are diverse. They differ, for example, in terms of data sources, the selection of rating criteria or the generation of the final score. Rating agencies essentially use four different approaches to select rating criteria to rate companies. Distinctions are made among negative criteria, positive criteria, the best-in-class approach, and rating by risk. In addition to rating criteria, companies are often rated based on risks. Companies face various social, environmental, and entrepreneurial risks depending on their industry, business model and products or services. The greater these risks are, the more consciously these companies must be managed [20]. Since all the assessment approaches presented have their advantages and disadvantages, a combination of these approaches is often used in practice [20]. The market for sustainability rating agencies has changed significantly in recent years. The financial markets focus on economic risk-based financial products results in the growing demand for ESG information; thus, there is now a wide range of ESG company ratings available. Moreover, many small providers of sustainability services have merged with large agencies. Additionally, traditional rating agencies of financial market information also select more information on ESG data and add ESG rating criteria to their models [16]. However, this variety of providers means that investors need to be aware of the multitude of sustainability rating providers and their respective underlying valuation models to make an efficient investment decision while weighing individual ESG preferences. Companies can contribute to greater transparency by publishing the rating results in their annual reports and pointing out the differences in the weighting of the criteria and different methods. Researchers check whether and to what extent they do so, and researchers hand collect not only the information provided in annual and sustainability reports, but also the DAX40 rating results provided by rating agencies on their website to verify the information provided by the companies and/or add missing ratings.

3. Financial Performance

Researchers use financial performance as a measure of the effect on professional stakeholders (investors) and corporate reputation as an indicator of the impact on non-financial stakeholders (consumers) to examine the impact of ESG ratings on stakeholders. For some years, stakeholders have been placing increasing emphasis on ESG aspects while selecting their potential investments [21][22]. In addition to financial aspects, their investment decisions are also influenced by nonfinancial information. Professional stakeholders, in particular, influence the development of the share price through their investment decisions. Therefore, the use of share price values as a measure of the impact on investors seems particularly suitable for the study, as market value is significantly influenced by the investors’ perceptions of the company [23][24]. Researchers take monthly share price values from the database provider Refinitv, starting in the second quarter of 2021. Researchers focus on share price values from 12 periods after the publication of the 2020 annual and sustainability reports. Therefore, researchers receive 480 company month observations for the investigation.

4. Corporate Reputation

Researchers follow Waddock/Googins (2011) and Fombrun/Shanley (1990) and use corporate reputation as an indicator of the effect on consumers to determine the impact of ESG ratings on non-professional stakeholders [25][26]. In this way, corporate reputation reflects stakeholders’ assessment of the extent to which a company meets the expectations of its stakeholders [25][26]. Following Axjonow et al. (2016), researchers use YouGov’s BrandIndex to measure the perception of the corporate reputation of non-professional stakeholders [27]. BrandIndex is based on perceptions of non-professional stakeholders from thousands of consumer interviews across more than fifty-five markets, consisting of 15 metrics. Researchers focus on the metric of brand reputation, as a good reputation represents a significant target for companies and forms one of the most important intangible assets [28]. For the investigation, researchers select the reputation scores of brands that match the company names of DAX40 companies. In addition, researchers add reputation scores of the most common brands of DAX40 companies, whose company names are not the same as their brand names; e.g., for the company Henkel, researchers used the brand Persil, and for the company Bayer, researchers chose their most common brand, Aspirin. Following this approach leaves researchers with reputation scores for 18 of the DAX40 companies

References

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  8. Hunjra, A.I.; Boubaker, S.; Arunachalam, M.; Mehmood, A. How Does CSR Mediate the Relationship between Culture, Religiosity and Firm Performance? Financ. Res. Lett. 2021, 39, 101587.
  9. Javed, S.A.; Zhu, B.; Liu, S. Forecast of Biofuel Production and Consumption in Top CO2 Emitting Countries Using a Novel Grey Model. J. Clean. Prod. 2020, 276, 123997.
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  12. Velte, P. Does ESG performance have an impact on financial performance? Evidence from Germany. J. Glob. Responsib. 2017, 8, 169–178.
  13. Scalet, S.; Kelly, T.F. CSR Rating Agencies: What is Their Global Impact? J. Bus. Ethics 2010, 94, 69–88.
  14. Berg, F.; Kölbel, J.; Rigobon, R. Aggregate Confusion: The Divergence of ESG Ratings. MIT Sloan Manag. Rev. 2019, 5822, 1–48.
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  16. Escrig-Olmedo, E.; Fernández-Izquierdo, M.; Ferrero-Ferrero, I.; Rivera-Lirio, J.; Muñoz-Torres, M. Rating the Raters: Evaluating How ESG Rating Agencies Integrate Sustainability Principles. Sustainability 2019, 11, 915.
  17. Miras-Rodríguez, M.d.M.; Bravo-Urquiza, F.; Escobar-Pérez, B. Does Corporate Social Responsibility Reporting Actually Destroy Firm Reputation? Corp. Soc. Responsib. Environ. Manag. 2020, 27, 1947–1957.
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