When does going green pay off more?

The modern society has been increasingly concerned about the drastic degradation our natural environment has witnessed over the past few decades. Now such changes in the natural environment have become a major factor in driving national economic policies as well as corporate strategies across the world.

Environmental degradation is no longer a secondary issue

For the business world, deterioration of the natural environment has engendered numerous challenges because firms in diverse array of industries rely on the natural environment for business-critical resources. The impact of environmental degradation and climate change poses significant financial risks and a threat to corporate survival. Consequently, it is no longer regarded as a secondary issue: firms have begun to see it as a core socio-economic concern. To meet internal and external stakeholders’ expectations and to address the threats posed by environmental degradation, an increasing number of organisations are adopting sustainable environmental practices and engaging in corporate environmentalism.

Environmental performance drives firms’ competitiveness and financial performance

The deployment and exploitation of firms’ internal and external resources is vital to create and maintain a competitive advantage in the industry. The physical environment is an important external resource which is used by firms not only to produce the products and service they offer but also help them sustain and grow over longer terms. Firms which proactively adopt and integrate pro-environmental business practices into their strategic stance to lessen negative externalities strengthen their competitive advantage in the marketplace, improve their financial performance and ensure their long-term survival.

Environmental performance mitigates firms’ long-term insolvency risk

While green/environmental performance improves firms’ market competitiveness and financial performance, it is important to look at the other side of coin which is the financial risk. More precisely, whether and how corporate environmentalism relates with corporate insolvency risk, which provides a perspective on firm survival in the long term remains an open question and is the focus of this study. It further proposes that market power and competition intensity moderate the relationship between corporate environmentalism and the risk of insolvency.

The proposed theoretical predictions were tested on a sample of 179 leading US-based green firms ranked in Newsweek’s Green Rankings between 2010 and 2017. The results reveal a negative association between the green performance of the sample firms and their insolvency risk. Moreover, a firm’s market power and industry-competitive intensity tend to positively moderate the effect of green performance on its insolvency risk. The findings of the study demonstrate that the effect of corporate environmentalism is not limited to revenues and profitability but is also related to a firm’s risk profile. More precisely, the findings of the study extend the link between corporate environmentalism and corporate performance to the risk of insolvency, as opposed to generally examined market-based measures of risk. The findings also contribute to the discussion of why not all firms experience the same consequences of corporate environmentalism.

A proactive approach on environment front to ensure firms’ competitiveness and sound risk profile

Based on the results, it is recommended that managers proactively incorporate pro-environmental initiatives into their overall corporate strategy so as to lessen their firms’ insolvency risk. Implementing corporate environmentalist practices will support corporate survival by reducing the risk of insolvency. Managers should also endeavor to strengthen the market power of their firms to further augment the positive impact of environmental activities. Finally, managers of firms which operate in highly competitive marketplaces can reap even greater rewards by engaging in eco-friendly initiatives.

Methodology

This study employs a system GMM to estimate the empirical models. The system GMM is specifically designed for an autoregressive model (Arellano and Bover, 1995; Blundell and Bond, 1998) and addresses endogeneity concerns by using suitable instruments. Instrumental variables are gleaned from the lags of the firm-specific variables included in the model (Arellano and Bover, 1995), which can be applied in differences or levels; furthermore, the model is specified as a system of equations (Arellano and Bover, 1995; Blundell and Bond, 1998). Finally, system GMM is robust to panel-specific heteroscedasticity and serial correlation.

Applications and beneficiaries

The findings of the current research have significant implications for both c-suite executives as well as policy makers. Executives of profit-oriented enterprises need to adopt a pro-environmental agenda in their organizations’ overall strategic stance which will assist them in acquiring legitimacy and autonomy among diverse business-critical internal and external stakeholders. Consequently, firms that proactively pursue a pro-environmental agenda can significantly lessen their risk of insolvency. Furthermore, policy making bodies such as governmental environmental protection agencies should actively incentivize for-profit organizations to adopt a pro-environment stance.

Reference to the research

Aziz, S., Rahman, M., Hussain, D., & Nguyen, D. K. (2021). Does corporate environmentalism affect corporate insolvency risk? The role of market power and competitive intensity. Ecological Economics, 189, 107182.