Environmental, social, and governance score and corporate financial performance: The strategic role of corporate cash holdings

Hamid, Lubna; Shear, Falik Article Environmental, social, and governance score and corporate financial performance: The strategic role of corporate cash holdings Pakistan Journal of Commerce and Social Sciences (PJCSS) Provided in Cooperation with: Johar Education Society, Pakistan (JESPK) Suggested Citation: Hamid, Lubna; Shear, Falik (2025) : Environmental, social, and governance score and corporate financial performance: The strategic role of corporate cash holdings, Pakistan Journal of Commerce and Social Sciences (PJCSS), ISSN 2309-8619, Johar Education Society, Pakistan (JESPK), Lahore, Vol. 19, Iss. 3, pp. 578-597, https://doi.org/10.64534/Commer.2025.574 This Version is available at: https://hdl.handle.net/10419/330362 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. 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If the documents have been made available under an Open Content Licence (especially Creative Commons Licences), you may exercise further usage rights as specified in the indicated licence. https://creativecommons.org/licenses/by-nc/4.0/ Pakistan Journal of Commerce and Social Sciences 2025, Vol. 19(3), 578-597 https://doi.org/10.64534/Commer.2025.574 Environmental, Social, and Governance Score and Corporate Financial Performance: The Strategic Role of Corporate Cash Holdings Lubna Hamid 1* & Falik Shear 2 1 Virtual University of Pakistan, Virtual University Campus, Abdullahpur, Faisalabad, Pakistan 2 National Textile University, Sheikhupura Road, Faisalabad, Pakistan *Corresponding author’s Email: [email protected] Article History Received: 20 Mar 2025 Revised: 21 Sept 2025 Accepted: 27 Sept 2025 Published: 30 Sept 2025 Abstract This research paper investigates the impact of Environmental, Social, and Governance (ESG) performance on corporate financial performance (CFP). Moreover, it explores the moderating role of corporate cash holdings in the link between ESG and the financial performance of firms. Data is collected for companies with ESG ratings throughout the world. The final sample of this study consists of 6072 firms from 1999 to 2020 covering the various regions of the universe, including East Asia and Pacific, Europe and Central Asia, South Asia and Sub-Saharan Africa, Latin America and the Caribbean, Middle East and North Africa, and North America. Panel data regression by using STATA software is conducted to investigate the direct and moderating roles among the variables. The research’s findings show that higher ESG hurts firms' profitability, measured by EBIT; however, ESG positively influences firms’ revenue (sales). Furthermore, we examined the moderating role of corporate cash holdings on the ESG and CFP nexus. The results indicate that firms with substantial cash reserves can better manage the costs associated with ESG activities, mitigate the impact on profitability, and enhance revenue generation. Our research study contributes to the existing knowledge and provides novel insights regarding ESG by investigating the role of corporate cash holdings on the ESG and corporate financial performance nexus. This study highlights the incentives for corporate managers to maintain sufficient cash reserves. Secondly, firms should adopt governance policies that balance short-run financial goals with long-run sustainability objectives. Keywords: Corporate cash holdings, ESG score, global listed firms, financial performance. 1. Introduction Environmental sustainability is a crucial concern for policymakers and business communities worldwide. Climate change and the depletion of resources are compelling reasons to increase the emphasis on environmental, social, and governance (ESG) practices Hamid & Shear 579 and sustainability reporting for firms. Organizations have adopted various environmental management strategies (Dai et al., 2017; Yang et al., 2019). Green production (Gong et al., 2018), Eco-designs, sustainable supply chain management (Govindan et al., 2014), water conservation, green marketing (Groening et al., 2018), and climate risk management are some among the other initiatives and practices opted for as environmental strategies. Globally, to measure the performance of corporates related to environmental, social, and governance factors, rating agencies such as Refinitv, Sustainalytics, Bloomberg, MSCI, RepRisk, and Vigo Eiris, among others, emerged to issue ESG scores to corporates. These rating agencies collect firm-level information on different sustainability perspectives, such as emissions, effluents, waste management, water use, land conversion, biodiversity management, business ethics, human capital management, and governance practices. Subindexes are constructed for distinct levels of aggregation, weights are applied and a score (e.g., A, A-, B, or 1 to 100) is assigned to each company. These scores present their assessment of the company’s sustainable practices. Literature highlights that ESG disclosures contribute significantly towards firms’ financial performance. Raghavan, (2022) argues that better ESG performance results in a better financial position. Stefan & Paul, (2008) reveals that environmental performance leads to improved financial outcomes by increasing revenue due to better access to markets & finances, product differentiation, good relations with stakeholders, and proper risk management. ESG practices positively influence a firm’s financial position by reducing financial restrictions (Li et al., 2018; Zhang & Lucey, 2022) moreover, a firm’s nonfinancial disclosure assists in estimating future financial performance (Serafeim & Grewal, 2017). Albitar et al., (2020) analyzed the relationship of ESG disclosure and firms’ performance through pre-assessment and post-assessment methods and observed a positive and significant effect of ESG Scores on firms’ financial performance. Firms with better ESG practices are often in a position to manage regulatory risks, attract socially responsible investors, and sustain long-term growth. ESG disclosures and higher ESG scores reflect the efficiency, credibility, and transparency of the organization, these are the driving factors to gain investors’ trust that ultimately raise firm value. Socially conscious investors park their funds in firms with high ESG scores to develop green portfolios and believe the ESG standing of a firm is a selection criterion in addition to financial measures to construct decisions regarding sustainable investments (Atan et al., 2018). Conversely, some studies exhibit a negative relation between ESG ratings and firm financial outcomes (Farooq, 2015; Zahid et al., 2022; Saygili et al., 2022). These distinct findings are compelling us to reexamine the ESG and CFP nexus. Furthermore, one of the crucial aspects in financial management is corporate cash holdings, that is the most liquid assets for organizations. Cash reserves reflect firms’ liquidity, risk management, and strategic investment capabilities. Cash and marketable securities presented on the face of the balance sheet are important assets and attract the attention of ESG, Corporate Financial Performance and Cash Holdings 580 investors, analysts, and other companies (Subramaniam et al., 2011). Substantial cash holdings serve as a buffer against financial distress for firms and also enable them to capitalize on feasible and profitable investment opportunities by giving the firms flexibility to invest. Chen et al., (2020) argue that “cash is king” as it decides the firms’ financing, investment, and operations, and consequently determines firms’ overall value. The objective of this research is to explore the moderating role of corporate cash holdings in the relationship between firms’ ESG ratings and financial performance. How might cash holdings influence the relationship between ESG scores and the financial performance of a firm? The core hypothesis is that corporations with higher cash holdings might leverage their liquidity to invest more effectively and efficiently in ESG practices, thus enhancing their financial performance. This hypothesis is aligned with the study of Chang & Yang (2022), they argue that firms with higher cash reserves invest more in research and development (R&D) and spend more on capital expenditures. On the contrary, firms with low cash holdings may face more challenges in coping with ESG investments, costs, and other financial obligations, thereby potentially affecting overall profitability and other economic outcomes. This study aims to fill the gap in existing literature by investigating the interplay among the ESG, financial performance, and cash holdings. As per the knowledge of the authors, there is no research in the literature that has studied firms’ ESG scores, financial performance, and cash holdings, providing evidence from all over the world. This study highlights the distinct aspect of how financial liquidity, specifically, cash holdings, can influence/shape the ESG strategies on financial outcomes by investigating the moderating role of cash reserves. This research addresses two critical questions: Can financial liquidity mitigate the potential negative impact of ESG practices on corporate financial outcomes? Do corporate cash holdings enhance the positive effects of strong ESG scores on corporate financial performance? Our study is relevant in the current global scenario, where corporates simultaneously face economic uncertainties and sustainability challenges. The interplay between corporate cash holdings, ESG score, and financial outcomes can influence corporate policies, investors’ strategies and promote a holistic approach that integrates financial stability and sustainable practices. This research contributes to the literature by filling the gap among financial management, ESG considerations, and corporate performance. It highlights the strategic role of liquidity in supporting firms in pursuing sustainability objectives. Adding corporate cash holdings helps us look beyond ESG and CFP's direct relationship and is useful for corporate leaders to build a conducive environment. The structure of this paper is as follows: Section 2 describes the theoretical background and literature, Section 3 describes data and methodology, Section 4 presents results, and Section 5 concludes the findings and highlights policy and managerial implications. Hamid & Shear 581 2. Theoretical Background and Literature Stakeholder theory is linked to ESG research. Business is viewed as a system for creating value for stakeholders (Freeman, 1984). It is inevitable for organizations to evaluate continuously how they interact with the stakeholders. It is the core idea of stakeholder theory that organizations must realize the value of relationships with stakeholders to succeed or fail (Al Amosh et al., 2024). Despite the traditional approach of the business, the increase of shareholders' wealth (profit maximization), it is now believed that a company's survival is tied to the input and participation of society at large. A firm’s existence is not only to pursue the interests of its own, but the interests of stakeholders as a whole (Donaldson & Preston, 1995). The primary stakeholders of a company are shareholders, employees, consumers, suppliers, and creditors. Similarly, the secondary stakeholders are regulatory bodies, residents, communities, and all those affected by business activities in direct or indirect manners, like the natural environment. Thus, firms are to consider the interests of all stakeholders and ensure sustainability by focusing on social and environmental concerns. In literature, researchers have employed ESG factors, disclosures, or scores to assess the ESG performance of organizations. The study of Fatemi et al., (2018) shows that organizations with better environmental performance contribute to financial outcomes. Orlitzky, (2013) provides evidence that firms with better CSR practices enhance the firm's financial performance. ESG practices and corporate responsible behavior upgrade the performance and values of firms (Bhaskaran et al., 2020; Cek & Eyupoglu, 2020; Ahmad et al., 2021). Study of Alareeni & Hamdan, (2020) investigate the overall and each dimension’s effects on the financial outcomes of listed UK companies, overall, ESG scores show a significant as well as positive impact, however, individually, each dimension: environment, social, and governance, is showing mixed results on the dependent variable, that is, the corporate financial performance. ESG disclosure and the firm’s market performance are assessed by Buallay et al., (2020), indicating a positive association. Lo & Sheu, (2007) proved the significant and positive association between corporates’ sustainability and firms’ market value measured as Tobin’s Q. Environmental disclosures, either mandatory or voluntary, also exhibit a positive impact on corporates’ financial outcomes (Wu et al., 2024). 2.1 The Trade-off Model of Cash Holdings and Hypothesis In a state of perfect capital market, there will be no cost of transaction for raising funds and the level of cash holdings will be irrelevant to the firm’s value. However, capital markets are imperfect, so the transaction costs are relevant while raising funds. Therefore, companies determine the suitable level for cash holdings by managing the trade-off between the cost and benefits of investing funds in liquid assets as proposed by Miller & Orr, (1966) and Kim et al. (1998). The value of the company reaches its peak when the ESG, Corporate Financial Performance and Cash Holdings 582 advantages of holding cash are equivalent to the cost of maintaining cash reserves. Keeping cash in hand reduces the likelihood of encountering financial difficulties, minimizes transaction expenses, and creates additional avenues for investment that might otherwise be inaccessible due to financial constraints (Guizani, 2017; Lozano & Yaman, 2020). Inadequate cash reserves may lead to liquidity shortage, reduce the desired investments (Campello et al., 2010; Mercatanti et al., 2019), limit spending for research and development (Chang & Tang, 2021), increase financing expenses, and a shock dividend policy (Lee & Suh, 2011). Yuan et al., (2025) have given the evidence that ESG performance of a company also positively affects its cash reserves. Ahmed & Khalaf (2025) examined the moderating role of cash holdings in the relationship between ESG performance and companies’ market value, sample of the study was European Union (EU) companies. Their results show that cash reserves have a positive effect on firms’ market value. Despite the extensive literature on ESG, corporate cash holdings, and corporate financial performance, none of the research has incorporated the moderating role of corporate cash holdings between the relationship of ESG dimensions and CFP. The contribution of our research is twofold: one is to reexamine the connection between ESG and CFP, and the second is to examine the strategic role of cash holdings in this direction. ➢ Hypothesis 1: ESG components (Environment, Social, and Governance) have a negative impact on corporate financial outcomes. ➢ Hypothesis 2: Corporate cash holdings positively moderate the relationship of ESG performance and financial performance. 3. Data and Methodology This section presents summary of the sample, variables, descriptive statistics, and methodology. 3.1 Sample Selection Data was collected from DataStream, a global financial and macroeconomic time series database, for 32,574 publicly listed companies in 92 countries from 1999 to 2020. We filtered the data for companies having ESG scores in the DataStream database, and after scrutiny, ended up with 6072 companies and 39067 firm-year observations because of data unavailability of some companies, as ESG disclosures are not mandatory in some regions. The summary of sample is presented in Table 1. Hamid & Shear 583 Table 1: Sample Summary Initial Sample With ESG Component Scores Sample Period 1999 – 2020 1999 – 2020 Number of Companies Number of Countries 92 55 Total Observations 308,257 39,067 Region-wise Number of Observations East Asia and Pacific 98,583 9,469 Europe and Central Asia 49,213 5,323 Latin America and the Caribbean 6,628 1,035 Middle East and North Africa 7,721 230 North America 129,815 22,397 South Asia 13,489 337 Sub-Saharan Africa 2,808 276 3.2 Dependent Variables Two parameters are used to measure corporate financial performance: profitability and sales revenue. We measure profitability as earnings before interest and taxes (EBIT) and sales revenue as the natural logarithm of net sales for a year. Research studies use the sales revenue to measure firm profitability (Zahid et al., 2022) and EBIT (Xu & Li, 2022); (Carnini Pulino et al., 2022); (Nguyen & Nguyen, 2020)) as a proxy for firm financial performance. 3.3 Independent and Moderating Variables ESG components (environment, social, and governance) scores are used as independent variables. The output of these three components contracts the ESG scores. It is valuable to assess the impact of each independent component (E, S, and G) to prevent the potential influence of one dimension on another. (Buallay et al., 2020). Assessing while keeping this categorization supports us to investigate which ESG component score is most significant, and which positively or negatively impacts corporate financial performance. The moderating variable in this research study is corporate cash holdings. Corporate cash holdings are measured as cash and marketable securities normalized by total assets (Javadi et al., 2021). ESG, Corporate Financial Performance and Cash Holdings 584 3.4 Control Variables Literature indicates several factors influence corporate financial performance. We are also considering control variables that align with the literature to avoid biased analyses and to assess the actual impact of independent and moderating variables. Control variables included in this research are size, leverage, and growth. Large organizations can benefit from economies of scale, which is crucial for achieving financial outcomes. Debt level affects the finance costs that can disturb the profitability of organizations. Moreover, following the prior studies of Smith & Watts (1992) market-to-book ratio is included as control variable to proxy for growth opportunities. Size is measured as the natural log of total assets (Zhu et al., 2014); (Wang & Wang, 2024). Debt/leverage affects the cash flow of a corporation. Leverage is measured as the ratio of total debt to total assets (Zahid et al., 2022). Growth is measured as the market-to-book ratio, the ratio of the equity’s market value to equity’s book value. Table 2: List of Variables Variable Role Symbol Measure Dependent variables Sales Revenue Rev(logn) Natural logarithm of net sales Earnings before Interest and Taxes EBIT EBIT divided by total assets Independent and moderating variables Environmental performance score Environment E score extracted from the Datastream Social performance score Social S score extracted from the Datastream Governance performance score Governance G score extracted from the Datastream Cash holdings CASH Cash and marketable securities to total assets Control Variables Size SIZE Natural logarithm of total assets Leverage LEV Total debt to total assets Growth MTB (Marketto-Book) Equity’s market value to equity’s book value Hamid & Shear 585 3.5 Empirical Models 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝐸𝑛𝑣𝑖𝑟𝑜𝑛𝑚𝑒𝑛𝑡𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽3𝐿𝐸𝑉𝑖,𝑡 + 𝛽4 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (1) 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝑆𝑜𝑐𝑖𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽3𝐿𝐸𝑉𝑖,𝑡 + 𝛽4 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (2) 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝐺𝑜𝑣𝑒𝑟𝑛𝑎𝑛𝑐𝑒 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽3𝐿𝐸𝑉𝑖,𝑡 + 𝛽4 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (3) The above multivariate regression models 1, 2, and 3 are estimated to see the hypothesized relationship between components of ESG and corporate financial performance. In the above models, i is the firm and t is the time (in years). Firms’ financial performance is measured by earnings before interest and taxes (EBIT) and sales revenue (Rev(logn)). Year dummies are included to control for time-specific effects. The error term is denoted by ε. To investigate the moderating impact of corporate cash holdings in the ESG and financial performance nexus, an interaction term is generated: Cash holdings × ESG components. The interaction term is included in the following models. 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝐸𝑛𝑣𝑖𝑟𝑜𝑛𝑚𝑒𝑛𝑡𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 + 𝛽3𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 ∗ 𝐸𝑛𝑣𝑖𝑟𝑜𝑛𝑚𝑒𝑛𝑡𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽4𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽5𝐿𝐸𝑉𝑖,𝑡 + 𝛽6 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (4) 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝑆𝑜𝑐𝑖𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 + 𝛽3𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 ∗ 𝑆𝑜𝑐𝑖𝑎𝑙 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽4𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽5𝐿𝐸𝑉𝑖,𝑡 + 𝛽6 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (5) 𝐹𝑖𝑛𝑎𝑛𝑖𝑐𝑎𝑙 𝑃𝑒𝑟𝑓𝑜𝑟𝑚𝑎𝑛𝑐𝑒𝑖,𝑡 = 𝛼°+ 𝛽1𝐺𝑜𝑣𝑒𝑟𝑛𝑎𝑛𝑐𝑒 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽2𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 + 𝛽3𝐶𝑎𝑠ℎ ℎ𝑜𝑙𝑑𝑖𝑛𝑔𝑠𝑖,𝑡 ∗ 𝐺𝑜𝑣𝑒𝑟𝑛𝑎𝑛𝑐𝑒 𝑆𝑐𝑜𝑟𝑒𝑖,𝑡 + 𝛽4𝑆𝐼𝑍𝐸𝑖,𝑡 + 𝛽5𝐿𝐸𝑉𝑖,𝑡 + 𝛽6 𝑀𝑇𝐵𝑖,𝑡 + 𝑌𝑒𝑎𝑟 𝐷𝑢𝑚𝑚𝑖𝑒𝑠 + 𝜀𝑖,𝑡 (6) 4. Results and Discussion 4.1 Descriptive Statistics Table 3 is presenting the descriptive statistics for the variables of our study sample. The mean revenue value is 13.81, indicating that most of the firms are earning substantial revenue as the revenue value ranges from 0 to 20, the minimum of 0 indicates some firms have no revenue in certain years. The standard deviation of 2.88 denotes little variation across firms, and the values are concentrated around the mean. ESG, Corporate Financial Performance and Cash Holdings 592 cash reserves can better manage the costs related to ESG activities, mitigate the impact on profitability, and enhance revenue generation. Indeed, this highlights the importance of financial flexibility because of the most liquid asset (cash holdings) in implementing sustainable business practices. Results of this research are consistent with stakeholder theory, as by investing in ESG practices, firms gain customer loyalty and goodwill, which leads to higher sales, but profitability may lag unless supported by resources (cash holdings). Regarding policy implications, this study suggests that regulatory bodies should consider implementing or enhancing mandatory reporting standards, as transparent reporting can help investors make informed decisions and attain more sustainable investments. Regarding implications for managers, this study highlights the incentives for corporate managers to maintain sufficient cash reserves. Secondly, firms should adopt governance policies that balance short-run financial goals with long-run sustainability objectives. Third, active engagement with stakeholders (including customers, employees, investors, and society at large) on ESG issues can help to align business strategies with societal expectations, ultimately leading to increased revenue and long-term success. Policymakers and corporate leaders, by working together, can create an environment that balances sustainable practices and profitability with broad social and environmental goals. Despite offering novel insights into the area of ESG, financial performance, and cash holdings, this research is not without limitations. Current research is based on aggregate scores for each dimension of ESG: environment, social, and governance. 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