Do Company Valuation Methods Incorporate ESG Factors? Exploring an Italian Industrial Panel

The pervasiveness that sustainability has gradually taken on in business activity should also be seen as a result of the growing interest from financial market operators to increase the degree of efficiency of the capital allocation process, assuming long-term investment strategies that consider ESG factors and related risks in portfolio choices. ESG analysis, complementary to traditional financial analysis, allows a deeper understanding of a specific company as it will enable the expansion of the information available at the basis of investment decision-making processes and to appreciate the material drivers to assess corporate financial performance. However, including sustainability aspects in traditional financial analysis is not straightforward. Thus, it seems legitimate to ask whether the traditional methodologies for appreciating the value of a company should be refined through the inclusion of new elements relating to sustainability issues or whether they are already implicitly appreciated by the current specific underlying factors. Scholars highlight different forms ESG integration can take into the DCF method to assess a company’s value properly. Nevertheless, the inclusion of ESG elements within the scope of the DCF company valuation methodologies is not free from application difficulties in consideration of potential errors relating to the magnitude of the cash flow or discount rate adjustments and double counting. In this paper, we investigate the association between ESG performance (and its pillars) and firm value using a panel analysis of a sample of Italian-listed industrial firms from 2016-2022. Our findings suggest that the overall ESG score has a positive and significant relationship with firm value. Individual Environmental and Social scores have a positive and significant relationship, while Governance score does not have a significant relationship with firm value. These results are only a starting point for a future research direction regarding the inclusion of ESG issues into company valuation methods.