Beyond Compliance: How ESG Reporting Influences the Cost of Capital in UK Firms

Ahmed Saber Moussa () and Mahmoud Elmarzouky
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Ahmed Saber Moussa: Customs Authority, Ministry of Finance Egypt, Nasr City 11635, Cairo, Egypt
Mahmoud Elmarzouky: St Andrews Business School, University of St Andrews, The Gateway, North Haugh, St Andrews KY16 9RJ, UK

JRFM, 2024, vol. 17, issue 8, 1-21

Abstract: This research examines the effect of ESG disclosure on the cost of capital for non-financial firms in the UK, indexed by the FTSE All-Share Index, during the period from 2014 to 2018. Using multivariate analysis with ordinary least squares (OLS), fixed effects, robust regression, and Tobit models, this research assesses the effect of ESG reporting, governance, and the cost of capital, including robustness checks using an alternative ESG indicator, the environmental pillar score. Contrary to expectations, ESG reporting is positively associated with the cost of capital. However, corporate governance moderates this relationship, weakening the positive correlation and reversing it to a negative association for firms with strong governance practices, consistent with the hypotheses. This research also finds that firm size, liquidity, profitability, and leverage, positively affect the cost of capital, while board size, independent board composition, audit committee independence, and auditor type do not significantly influence it. Notably, non-executive directors on the audit committee have a significant negative effect on the cost of capital. These findings are valuable for investors, companies, regulators, auditors, policymakers, and the academic and research community. Specifically, for investors, this study provides insights into how ESG disclosures can influence investment risks and returns, highlighting the importance of robust corporate governance. Companies can leverage these insights to enhance their governance practices and optimize their capital costs. Regulators and policymakers can use the findings to develop guidelines that encourage transparent ESG reporting and strong governance frameworks, thereby improving market stability and investor confidence. Auditors can utilize the results to better understand the effect of non-financial reporting on financial metrics, helping to provide more accurate audits and assessments. These findings inform investors, companies, regulators, auditors, and academia, in fostering a more sustainable and transparent financial environment.

Keywords: ESG reporting; cost of capital; stakeholder theory; legitimacy theory; principal component analysis (search for similar items in EconPapers)
JEL-codes: C E F2 F3 G (search for similar items in EconPapers)
Date: 2024
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