Do investors incorporate financial materiality of environmental information in their risk evaluation?

Newswise —

Financial materiality refers to essential and relevant information that a company is obliged to disclose in its financial statements. This data offers valuable insights to companies, allowing them to understand the factors that impact their performance and profitability. By considering such information, companies can mitigate risks and attract potential investors. While conflicts have arisen between shareholders and stakeholders on matters beyond financial aspects, such as environmental and social concerns, disregarding these factors, known as ESG (environmental, social, and governance), can present risks for both companies and investors.

A study conducted by researchers at Kyushu University revealed that investors perceive a company's response to environmental issues of material significance as a substantial risk factor when determining whether to invest. This emphasizes the significance of providing information that fosters communication between companies and investors for sustainable investment.

As the interest in sustainable investing grows, the concept of financial materiality is receiving closer scrutiny. The Sustainability Accounting Standards Board (SASB) has developed industry-specific standards to assist companies in disclosing financially relevant sustainability information. These standards aim to facilitate the integration of sustainability considerations into investment decisions.

 The research study examined data from 1,766 companies listed in the United States over the period of 2011 to 2020. By incorporating financial materiality into the assessment of environmental performance, this study offers fresh insights into sustainability investments from a shareholder's perspective. The researchers made three key discoveries:

1. The significance of each evaluation criterion for sustainable investment varies depending on the unique characteristics of each company.
2. Shareholders consider a lack of consideration for financial materiality in management strategies as a notable risk.
3. Assessing a company's environmental performance based on financial materiality provides investors with a more comprehensive understanding of the environmental risks involved (refer to the reference figure).

As the interest in sustainable investing continues to rise, there is a need to reassess how companies report environmental information. Incorporating ESG factors into investment strategies provides scientific evidence supporting the importance of including financial materiality to foster a sustainable and resilient economy. Adopting the financial materiality standards provided by the SASB can be an effective approach to evaluate and manage corporate environmental risks.

  This research was supported by Ministry of Education, Culture, Sports, Science and Technology, Grant/Award Numbers: 20H00648, 22K20176; New Energy and Industrial Technology Development Organization, Grant/Award Number: P14026

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