How uncertainty can determine corporate ESG performance?

Abstract Using Sino‐Securities Environmental, social, and governance (ESG) ratings data, we examine how environmental uncertainty affects the ESG performance of Chinese A‐share non‐financial listed firms from 2008 to 2020. Our findings show that environmental uncertainty harms corporate ESG performance. In particular, when environmental uncertainty increases, a firm's ESG score and ESG ratings decline due to factors such as financial constraints and industry competition. We argue that as the environmental risk premium rises, it increases the real options value of postponing sustainable investment for a firm. Consequently, the firms tend to cut down their ESG investment by weighing the long‐term benefits and short‐term direct costs. The value of real options changes with the investment opportunities available to the firms and the financing constraints and competitive pressure changes the size of investment opportunities. We argue that higher financing constraints and industry competition restrict available investment opportunities and dilute the negative impact of environmental uncertainty on corporate ESG performance. These results add to the existing literature investigating the impact of uncertainty on corporate ESG performance and offer insights to regulators and enterprise managers. These results are robust to alternate proxies of ESG performance and alternate regression techniques.