How do Stock Market Participants Value ESG Performance? Evidence from Middle Eastern and North African Countries

Abstract

Empirical evidence indicates that Environmental, Social, and Governance (ESG) practices are associated with firm financial performance, but little is known about stock market participants’ behaviour towards ESG practices, especially in unfavourable settings, where the level of shareholders’ protection is relatively weak. In this article, we examine whether ESG performance provides shareholders with value-relevant information to help them in their equity pricing decisions. Using a cross-country sample of non-financial firms drawn from 10 Middle East and North African (MENA) countries between the period from 2013 to 2019, we find evidence, which is based on the price specification of Ohlson (1995) valuation model, that ESG performance practices are positively priced by market participants and add incremental information content to earnings and book value of equity (BVE). However, when we split the aggregate ESG performance into its components, governance practice is found to be more value relevant than social practice, while the environmental pillar is found to be value (ir)relevant to shareholders. Results using the return valuation model complement and validate the price model specification. Our results suggest that social capital and institutional structures prevail on firm environmental impact. These results are robust to a set of additional tests. Overall, our empirical results indicate that market participants incorporate ESG performance when assessing firm value for the MENA region. Our findings could have several implications for managers, stockholders and regulatory bodies.