ESG ratings and corporate financial performance in South Africa

1. Introduction

The interest in responsible investment is assumed to have developed where investors' demands are rising for heightened transparency and disclosures with regards to how and where their funds are being invested. According to United Nations Principles of Responsible Investment UNPRI (2021), “responsible investment is a strategy which seeks to incorporate environmental(E), social(S) and governance(G) ESG factors into investment policies, decisions and ownership in a bid to generate sustainable risk-adjusted returns”. Integrating ESG factors into processes of making investment decisions helps to identify and price any risks that would not be ordinarily included under traditional investment analysis approaches. The Socially Responsible Investing (SRI) movement which made headlines in the 1980s was a fundamental principle in the establishment of ESG practices. It de-campaigned the apartheid regime in South Africa through divesting South African investments (Richardson and Cragg, 2010). Other investment approaches with similar practices include “ethical investing, economically targeted investing, sustainable or responsible investing, and impact investing” where the advocates of SRI recoined the idea as ESG in the early 2000s by including governance factors (Schanzenbach and Sitkoff, 2020).

The rising trends in ESG reporting to address sustainability issues is evidenced in principles enacted by various organisations including United Nations and its Sustainable Development Goals (SDGs) launched in January 2016 which are a blueprint for humanity to achieve a sustainable future for all; the UN-backed Principles for Responsible Investment (PRI) launched in 2006, the Global Reporting Initiative (GRI) and the recently launched EU Taxonomy [1]. In February 2012, the South African Code for Responsible Investing (CRISA) was established, whose five principles correlates to the UN-PRI [2] principles (IODSA, 2021) with the main objective of acquainting the investor community with ESG and emphasising the importance of ESG issues. The sustainability principles have necessitated an upsurge in responsible investing. The UNPRI reports that by January 2021 there was 18.9% growth in PRI signatories to 3,038, and assets under management for the total global portfolio grew by 12.3% to US$103.4tn. Furthermore, in Europe, sustainable investments account for 60% of assets under management, and in South Africa over $600bn worth of assets are allocated under responsible investing (GSIA, 2019; Reynolds, 2021; Lyudvig, 2022). This reflects investors' consideration of long-term returns through their adoption of ESG strategies on investment decisions and ownership. The growth in ESG funds and PRI signatories happened during the COVID-19 pandemic, which was disrupting supply chains and negatively affecting global economies making ESG proponents claim that ESG is living its promise of offering enhanced risk-adjusted returns (Authers, 2020).

An important issue arising from the increasing focus of responsible investing strategies relates to its effect on firms' bottom-lines. This has stimulated several studies on the effect of ESG investing on corporate financial performance (CFP), mainly within the context of developed economies, where most of the responsible investing funds are held. However, evidence remains inconclusive (Velte, 2017; Deng and Cheng, 2019; Rahi et al., 2022; Hasan et al., 2022; Friede et al., 2015; Zhao et al., 2018; Mohammad and Wasiuzzaman, 2021; Franzén, 2019; Petitjean, 2019; Folger-Laronde et al., 2020; Amin and Tauseef, 2022). As such, the objective of this research is to address this gap in contradictory evidence by empirically verifying the effect of ESG investing on firms' CFP within the context of an emerging economy, where little research has been carried out (Sherwood and Pollard, 2018; Johnson, 2020). In addition, emerging economies' lagging in infrastructure development and social amenities presents substantial investment and capital deployment opportunities. To be precise, in South Africa there is high income and social inequality, further aggravated by a significant reliance on fossil fuels for electricity generation among dire externalities on the environment. Therefore its necessary to have the study focus on this jurisdiction. Furthermore, our study is also motivated by and builds on the exploratory work of Worthington-Smith and Giamporcaro (2021) who found growing awareness of ESG factors in South African asset management and the need for further research to demonstrate how the integration of ESG factors can materially impact financial performance from a South African context.

Given that managerial behaviour tends to be driven by a firm's compensation system (Hang et al., 2019), evidence of the positive effects of ESG on profits can also incentivise managers to invest in socially responsible practices, as its partial consideration may not lead to desirable financial results (Adomako et al., 2019). Against this background, this paper contributes to the debate on the role of ESG on the financial performance of firms listed on Africa's largest stock exchange, the Johannesburg Stock Exchange (JSE). Specifically, the paper estimates a panel regression model of 40 listed firms which are included on FTSE/JSE Responsible Investment (RI) index from 2015 to 2019 using the instrumental variable estimation technique to address endogeneity. From the empirical analysis, overall ESG rating is observed to significantly improve accounting and market-based indicators of financial performance when controlling for endogeneity. Social factors are found to enhance firm's accounting performance. In addition, weak evidence is found in support of the role of environmental and governance indicators on financial performance which could signify that the markets are yet to reward such initiatives.

The analysis undertaken in this paper contributes to the literature in the following ways [3]. First, it extends the literature on JSE-related studies which have mainly been limited to the effect of corporate social responsibility (CSR) (Du Toit and Lekoloane, 2018; Mohmed et al., 2020), social performance disclosure (Sampong et al., 2021), governance disclosure (Abdo and Fisher, 2007) on financial performance and ESG disclosures on cost of capital (Johnson (2020). These studies endeavour to touch on the subsets of corporate sustainability, including CSR and corporate governance, creating gaps on the entire sustainability constructs covering environmental, social and governance which this study aims to address (Abukari et al., 2023). In addition, the CSR practices whose indicators are qualitative in nature dominates studies from South Africa and these are based on the overarching concerns around social and environmental issues. The qualitative characteristics of CSR indicators pose a challenge to firms due to the difficulties in measuring sustainable efforts. Pagano et al. (2018) define ESG ratings as a framework for assigning scores to a company, sector or a country's performance and practices in the areas of ESG factors, and these ratings are measured in a systematic way to yield a combined ESG score for that entity, industry or country. ESG ratings are made up of the overall rating that stems from underlying Pillar and Thematic Exposures and Scores built on over 300 individual indicator assessments tailored to each entity's unique circumstances (FTSE Russell, 2020). The ESG ratings are used to assess how well an entity incorporates sustainable and responsible practices into its operations, and how it manages risks and impacts related to the environment, social issues and corporate governance. Investors take interest in ESG ratings of companies for crafting investment strategies and decision-making. They use ESG ratings to evaluate sustainability performance and the risk profile of firms as this helps identify firms that align with their values, manage risks effectively and have potential for long-term sustainable growth. Higher ESG ratings may also be viewed by stakeholders that a firm is being a responsible citizen thus builds trust in the company and brand loyalty to its products and services it offers, increase reputation and strengthens relations with stakeholders (Billio et al., 2021; Pagano et al., 2018).

In addition, companies with very high ESG ratings are often perceived as less risky and more sustainable thus attracting capital at lower costs. More so, higher ratings enhance credit worthiness which may lead to lower borrowing costs and improved credit terms (Johnson, 2020). This study goes beyond the qualitative nature of CSR indicators and adopts ESG ratings criteria, which focuses on the quantitative results of firms' sustainable efforts leading to the measurability of those business efforts. South Africa's energy and water intensive industries, such as mining and agriculture, face a plethora of ESG risks including those that are climate-related such as extreme weather events, chronic heat waves, erosion and rising sea levels. Most of these climate-related risks emanate from South Africa's reliance on fossil fuels for energy output, therefore the results of the study may help businesses prioritise ESG risks and practices as these pose huge threats for firms viability (Vezér and Mayaki, 2019). Second, this paper also accounts for some classic econometric issues associated with the modelling of the relationship between ESG and financial performance such as endogeneity and simultaneity biases, which have been ignored by the prior literature to date (Velte, 2017; Deng and Cheng, 2019; Rahi et al., 2022; Hasan et al., 2022; Friede et al., 2015; Zhao et al., 2018; Mohammad and Wasiuzzaman, 2021; Franzén, 2019; Petitjean, 2019; Folger-Laronde et al., 2020; Amin and Tauseef, 2022). This paper addresses these issues and makes a methodological contribution with the use of two-stage least squares estimation approach to provide robust evidence on the relationship between ESG and CFP.

The rest of the paper is organised as follows: Section 2 presents an overview of the JSE and ESG practices in South Africa, while Section 3 outlines the theoretical framework and presents the research hypotheses. Section 4 reviews the empirical literature on ESG and financial performance. Sections 5 and 6 discuss the empirical strategy and the findings respectively, while Section 7 concludes the research and presents policy recommendations.

2. Background of the study: the JSE and ESG practices in South Africa

The JSE currently offers two responsible investing indexes. These are the FTSE/JSE Responsible Investment Top 30 Index and the FTSE/JSE Responsible Investment benchmark (Verney, 2018). The listing on the Johannesburg Stock Exchange (JSE) requires compliance with the King IV report on corporate governance to enhance better disclosure of environmental and social performance. This is viewed as essential in enhancing firms' capital allocation and risk pricing which are crucial ingredients to deliver an efficient market. According to the Department of National Treasury (2020) the Sustainable Finance Initiative for South Africa was developed to stimulate the attainment of sustainable economic and industrial activities which identifies, accommodates, and takes into account environmental and societal risks that can impact the stability of the financial sector. Thus, the JSE provides a platform for attracting investments earmarked for sustainable activities.

South Africa, like other emerging economies, is not lagging in the pursuit of sustainable environmental practices as evidenced by its national pledge of achieving Net Zero emissions by the year 2050. Given that the country emits heavy greenhouse gases, as the bulk of its electricity is generated from coal, this presents a huge opportunity for renewable energy investments and other low-carbon technologies (OECD, 2021; Sulla, 2020). In addition, the social condition in South Africa warrants consideration as the country has high income inequality which stood at 63 in 2014/15 as measured by Gini coefficient, which represents one of the highest rates in the world. Mdluli and Dunga (2022) assert that the social inequality in South Africa is further widened by high HIV rates of 13.7%, unemployment rates of 35.3% and over 55.5% of population living in poverty which is at the national upper poverty line of approximately ZAR 1,335 in 2021. These environmental and social considerations highlight the need for social responsibility efforts in South African firms, particularly those listed on the JSE.

To tackle these and other challenges, the government enacted a number of policies to interconnect the physical environment, natural resources and ethics to guide government structures in ensuring better stewardship and sustainability. A number of policies have been put in place to drive sustainable behaviour in the economy including The Carbon Tax, The National Environmental Management Act and the Integrated Resource Plan with regards to environmentally sustainable practices. Furthermore, the Reconstruction and Development Plan, The Growth, Employment and Redistribution Policy, and The Broad Based Black Economic Empowerment Act aim to address the social element of sustainability. Finally, the King IV report on Corporate Governance emanated to improve civil society and business practice by setting out principles aimed at achieving better corporate governance (Pfaff, 2021). Given the ESG issues South Africa has, it is clear that there is an expectation for firms to do more for their stakeholders to address its investment in ESG activities. By adopting ESG practices, firms will gain the trust of their stakeholders, which may ultimately lead to long-term relationships that may benefit firms financially.

3. Theoretical framework

The relationship between ESG ratings and CFP is underpinned by neo-classical economic theories on behavioural economics, rational choice and stakeholder-agency theories. Under the neo-classical school of thought, Friedman (1970) posit that if a firm pursues social activities, it incurs costs which reduce profits available for distribution to shareholders (Landi and Sciarelli, 2019). This idea asserts that the social responsibility of a business is to maximise financial returns and predicts that a firm's pursuit of non-financial goals obscures it from maximising shareholders wealth. By applying a cost-to-benefit lens, this theory attempts to widen traditional neo-classical approaches by incorporating the negative impact (i.e. costs in investing in non-financial goals such as ESG practices) within traditional pricing systems (Flores and Sarandon, 2004). However, we argue that while the desired outcome is indeed positive financial returns, managers need to be aware of the specific input required to achieve the desired output, particularly when operating within an emerging economy. With limited knowledge on the non-financial goals that lead to positive financial performance, this study aims to address this theoretical gap by analysing the effect of investing in ESG practices (as the input) on CFP (as the output).

In the same vein, according to Beerbaum and Puaschunder (2019), behavioural economic theory assumes that human beings use heuristics in making choices for themselves and their communities. Though these mental shortcuts enable humans to cope with a complex world and its surroundings, these heuristics expose humans to biases and ultimately result in failures in making rational decisions. Thus, the theory questions the assumption that individuals make rational decisions as behavioural economists argue that people are often influenced by impulsivity, their surroundings, their emotions rather than science when making decisions, and likely chase short-term gains than long-term rewards (Witynski, 2022). Given that ESG practices seek long-term financial gains, both neo-classical and behavioural economic theories anticipate a negative relationship between ESG activities and financial performance. Based on the neo-classical school of thought, behavioural economic theories and empirical evidence of Rahi et al. (2022), it can be hypothesised that:

The rational choice and stakeholder-agency theories explain the positive effect of ESG factors on financial performance. First, the rational choice theory (RCT) is another classical economic theory which assumes that human beings make decisions after evaluating a number of factors and then select the decision that will provide them with the greatest benefit. The RCT assumes that individuals logically make an investment decision after weighing costs and benefits and seek the option that maximises return. Since individuals interests are an increase in return, therefore if the assessed ESG costs are lower than ESG returns then it is aligned to their best interest (Marinescu, 2016; Bowen, 2018; Robinhood, 2022). The consideration of logical process in selecting investment choices after weighing costs and benefits plus inclusion of future uncertainties to generate return is akin to ESG investing. However, this theory is largely based on individual action and does not account for nuances such as cultural or social contexts where socially responsible activities are undertaken for reasons that are not derived from self-interest. Therefore, we account for this limitation by applying the stakeholder theory which assumes that businesses consider the interests of its stakeholders when it makes its business decisions as firm's value is created through the interdependence between the firm and its stakeholder groups which include; financiers, customers, suppliers, communities, employees, government, etc. (Wijnberg, 2000). Stakeholders are now more interested in firm's sustainability activities as these enhance better prospects of its long-term survival and profitability. Thus ESG ratings are a useful instrument firms can utilise to fulfil stakeholder interests, resulting in improved sustainable practice ratings and reputation which leads to increased financial performance (Velte, 2017). Jensen and Meckling (1976) explain the agency theory as a relationship between a principal and an agent to make some investment decisions that maximise revenue and minimise costs. The agency theory explains shareholder wealth maximisation through metrics such as return on equity (ROE) and return on assets (ROA). By carefully selecting investments which are environmentally friendly, it shows that management is fulfilling their fiduciary duty of increasing the wealth of the shareholders as they view higher ESG ratings as an indication of risk management which points to better performance of a company's shares in future (Rahi et al., 2022). The rational choice and stakeholder-agency theories, along with the empirical evidence of prior studies (Velte, 2017; Aboud and Diab, 2018; Deng and Cheng, 2019; Mohammad and Wasiuzzaman, 2021) suggests that:

The environmental dimension of ESG refers to a firm's impact on the natural environment where factors such as carbon emissions, resource efficiency, reticulation of waste and laws around environment influence financial performance. Firms that adopt sustainable practices and mitigate their environmental risks are inclined to enjoy cost savings from energy efficiency measures, avoid penalties for law breaches, improved media headlines, access to new markets and customers which are environmentally sensitive, and these point to better financial performance of an entity (Amin and Tauseef, 2022; Shakil et al., 2019; Khlif et al., 2015). This paper therefore hypothesises that:

The social dimension of ESG encompasses a firm's relationship with its employees, customers, suppliers and local communities. The social activities like good labour practices, employee satisfaction, diversity and inclusion, customer satisfaction and community engagement can impact financial performance. Thus, positive social practices enhance employee productivity, lowers employee turnover, improves customer loyalty and trust, facilitates good relationships with suppliers and ultimately leads to a positive brand image. These factors are ingredients to increased sales, reduced operating costs, better risk management thus improving overall financial performance of an entity (Khlif et al., 2015; Mohammad and Wasiuzzaman, 2021). As such, it is hypothesised that:

The governance dimension of ESG refers to a company's internal management structure, board composition, transparency and ethical practices. Robust governance structures ensure sound decision-making, proper risk management and accountability in organisations. Thus, sound governance practices can attract investors, reduce the cost of borrowing loans from banks and improves transparency about firms ESG's risks which helps alleviate information asymmetry and can lower a company's exposure to risk. Therefore strong corporate governance is aligned with better financial performance of a company (Rahi et al., 2022; Hunjra et al., 2020). From the literature, it is therefore hypothesised that:

To summarise the discussion on the theoretical framework and prior studies leading to the development of the research hypotheses, Figure 1 presents the hypothesised relationships of the ESG components and CFP.

4. Empirical literature

Similar to the conflicting effect of ESG on financial performance as evidenced by the preceding theoretical discussions, the empirical literature remains inconclusive, with evidence of either negative, positive or non-existing effects (Velte, 2017; Deng and Cheng, 2019; Rahi et al., 2022; Hasan et al., 2022; Friede et al., 2015; Zhao et al., 2018; Mohammad and Wasiuzzaman, 2021; Franzén, 2019; Petitjean, 2019; Folger-Laronde et al., 2020; Amin and Tauseef, 2022). In instances where positive relationships were established, Velte (2017) found evidence in support of a positive effect of ESG scores on ROA but no relationship was found between ESG scores and market-based financial measures in the German market. Deng and Cheng (2019) studied China's A share listed firms and the results showed a positive relationship between a firm's ESG indices and the performance of its shares. The results also showed the impact to be stronger for private firms than state entities, and for secondary industry sectors than the tertiary industry. This difference is largely due to manufacturing and processing industries' ratings on environmental aspects including high pollution, waste management and weak efficient water usage. Mohammad and Wasiuzzaman (2021) also found a positive relationship between ESG disclosures with financial performance even after controlling for competitive advantage, as the focus on sustainability was found to help firms manage their resources efficiently thereby saving on costs and eventually increasing firm's value. Albitar et al. (2020) weighed in and established that ESG disclosures help improve financial performance both before and after the introduction of integrated reports in the UK in 2013. On the contrary, Hasan et al. (2022), Amin and Tauseef (2022) and Franzén (2019) reported the negative effect of ESG on financial performance. First, Hasan et al. (2022) found a negative relationship between accounting measures (ROA and cash flow margin) and environmental performance of banks but an insignificant relationship with market measures (i.e. Tobin's Q). Amin and Tauseef (2022) established that overall ESG ratings reduce both accounting performance and market-based performance for firms in the financial sector.

Conversely, the ESG score for firms not operating in the financial sector shows a positive relationship between environment and market-based performance and this is owing to government incentives to green industries and compulsory reporting on pollution and environmental audits when applying for financing. Franzén (2019), in the study conducted between 2002 and 2017, found that firms with low ESG scores outperform firms with higher ESG scores, as ESG firm portfolios are subjected to higher negative abnormal returns due to costs of high ESG practices which exceeds the benefits. Moreso, investors overestimate high ESG benefits or underestimate its costs thus resulting in stock mispricing which manifest in negative abnormal returns. In addition, the presence of similarities in portfolio systematic risk contributes to making diversification difficult. Lastly, Rahi et al. (2022), Petitjean (2019), Folger-Laronde et al. (2020) have not found strong evidence in support of a relationship between ESG and financial performance. Rahi et al. (2022) found no relationship between ESG performance and the accounting measure (ROI), while Petitjean (2019) reported a weak relationship between ESG scores and financial performance following the 2008–2009 financial crisis because stockholders perceived that the sustainability activities were done sacrificing future alternative investment activities thereby cutting down the potential generation of firm's income thus jeopardising its market value. Furthermore, Folger-Laronde et al. (2020) studied ESG ratings during the COVID-19 pandemic and postulated that higher ESG ratings do not provide resilience to financial loses during a crisis-induced market crash, pointing to the weakness of the sustainability indicator used to measure ESG ratings as unable to adequately assess the ability to resist losses during crisis, making ESG inefficient in risk management.

Similar to aggregate ESG score, the effect of individual ESG dimensions/ratings on financial performance is also inconclusive. Under the positive theme, Bătae et al. (2021) and Amin and Tauseef (2022) reported that reductions in environmental emissions increase both accounting and market returns, mainly attributed to the incentives received from the government towards green industry development thereby boosting financial performance. Similar results were also reported by Shakil et al. (2019) for banks in emerging markets. In contrast, other studies by Hasan et al. (2022) and Samet and Jarboui (2017) have found banks that invest a lot in environmental initiatives struggle to efficiently manage cash flows thus harming a bank's market value. From the social component of ESG, higher social performance proxied by product responsibility, encompassing data privacy policy, quality management systems, products and services for low-income customers, and CSR practices hamper financial performance. Hasan et al. (2022) also find that CSR initiatives do not ameliorate a firm's free cash flow problems. Instead, Amin and Tauseef (2022) identify that higher social practice ratings harm a firm's market performance.

Finally, the study on governance factor ratings and ESG has inconclusive results as well. Amin and Tauseef (2022) showed a positive relationship between governance and market-based performances particularly when driven by foreign investors entering the Chinese stock market as foreign investors prioritise good governance structures and whether they are in place. Within the South African context, Ntim and Soobaroyen (2013) established that corporate governance combined with CSR initiatives has a stronger positive effect on financial performance than CSR alone. Further, it was also noted by Harun et al. (2020) that the size of a board of directors positively affects sustainability disclosures. Generally, the ownership of a firm that is concentrated among a few individuals results in poor financial performance, whereas the concentration of ownership by internal members of the organisation decreases agency costs and consequently improves financial performance (Xu and Wang, 1999). Conversely, Bătae et al. (2021) found that a change in the management and oversight score as a proxy for governance, negatively affects accounting measures and also identified that market measures are negatively related with the following governance measures: board characteristics, directors' compensation, independence of nomination committee and CEO-Chairperson duality. Harun et al. (2020) also found that CSR disclosures are negatively influenced by CEO duality.

5. Research design

6. Empirical findings and discussion

7. Summary and conclusions

Considering the growth in ESG investments in South Africa over the recent years, this paper employed panel regression techniques to examine the effect of ESG ratings on financial performance of 40 JSE-listed firms included on FTSE/JSE RI between 2015 and 2019. The results of the 2SLS instrumental variable estimation of the panel regression models find evidence in support of the positive effect of ESG activities on firms' ROE and Tobin's Q performance. As such, this paper made a methodological contribution by accounting for the classic econometric issues, such as endogeneity and simultaneity biases that were not considered by prior studies (Franzén, 2019; Petitjean, 2019; Folger-Laronde et al., 2020; Amin and Tauseef, 2022). The second contribution of this research was made by analysing the effect of the entire sustainability construct as a collective initiative on firms' finance performance, where prior studies (Du Toit and Lekoloane, 2018; Sampong et al., 2021; Abdo and Fisher, 2007) merely applied the subsets of corporate sustainability. Furthermore, the lack of conclusive findings from research conducted on this topic required empirical verification of the relationship between ESG and CFP of firms operating in an emerging economy and listed on the JSE. The empirical results of this research have contributed towards the sustainability discourse by analysing the instantaneous and lagged effect on ESG investments on CFP.

In respect of the ESG pillars (see Table 6), a positive relationship is observed between the environmental pillar and financial performance, indicating that firms' activities to reduce greenhouse gas emissions, use environmentally friendly products and/or implement water saving initiatives have translated into significance gains in the bottom line of the sampled firms. In contrast, the social and governance pillars were found to have negative effect on CFP. Overall, ESG ratings positively affect specific accounting-based and market-based measures, namely ROE and Tobin's Q ratio, providing support for the rational choice and stakeholder-agency theories that ESG initiatives enhance the financial performance of firms. Furthermore, the lagged ESG rating was found be positive and significant for the accounting- and market-based measures employed in the paper, indicating that an investment in ESG initiatives over time positively contributes to the financial performance of firms.

Several implications of the findings from this paper can be inferred to the leadership of firms, investors, market players and regulators. It is evident from the results that if a firm focuses on enhancing its ESG ratings, this will ultimately increase its attractiveness to other stakeholders. First, the observed positive effect on market performance highlights the value investors place on ESG ratings. The implications to company management and those in charge of governance practices are based on the trade-off between the choice of long-term returns through focusing on ESG practices across all three pillars and the of pursuit of short-term profits. Investing in sustainable practices (ESG initiatives) helps create a good social image for firms and results in positive returns. For instance, the investment in water saving methods, including water recycling and the use of raw materials that use less water, creates a good climate image for the firm and in addition, results in cost savings which increase profits in the long run. The transparency of information regarding financial performance, investment opportunities, risk management strategies and diversity of board members in terms of gender, racial background and disability reflects positively on the governance of firms and is an attribute required for a firm to be sustainable. A composite of these activities by company management can create long-term sustainable financial returns for the firm. It is evident that the engagement in ESG activities by firms indeed provides firms with positive financial returns and could also help stabilise capital markets, in particular the JSE, by attracting capital that is linked to sustainable practices. Firms engaging in ESG practices are perceived as less risky and therefore could experience less volatility. It is important for financial markets to develop ESG-related financial instruments that can suite and incorporate small-to-medium-sized enterprises as these firms play a huge role in implementing sustainable practices and contribute towards meeting of the UN's Sustainable Development Goals.

There are pertinent limitations that the study is exposed to which brings in perspectives for further research. A classic example is that study focused on all firms listed on the FTSE/JSE Responsible Investment Index and the index covers all sectors of the economy thereby the results are generalised to the entire economy. However, each sector of an economy has risks and opportunities which are distinct therefore the generalisation of results may not be true to all sectors. As such, future studies should focus on sectorial performance of ESG initiatives on financial performance as opposed to the overall industry. Despite this limitation, this paper provided evidence that engaging in ESG practices results in positive financial returns for firms operating in an emerging economy, like that of South Africa. As such, firms can contribute towards the betterment of the communities and pursue substantiality activities while still ensuring positive financial performance. In addition, recognising the potential non-linear relationship between ESG and financial performance requires future studies to explore potential thresholds effects, tipping points or nonlinear relationship between ESG performance and financial outcomes. ESG factors can affect a company's risk profile and resilience to external shocks, therefore future research should investigate how ESG performance influences a company's ability to manage risks, adapt to changing market conditions and enhance organisational resilience.