Sustainable & Impact Finance Initiative is proud to feature the research of our faculty and affiliate faculty members in the areas of ESG, accounting disclosure, real estate, green sustainability, and sustainability and policy.
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Sustainability and Policy
92% of executives believe that improving corporate culture will increase firm value. Exactly what drives corporate culture and how it is viewed by employees, however, is under researched. This paper provides information about how executives view culture, the elements that comprise culture, the perceived financial value of culture, how culture influences employees’ decisions, and what forces work for and against a value-enhancing culture. In summary, 91% of executives believe culture is important to their firms and 79% place culture among the top value drivers of their company. Fifty-four percent of executives would walk away from an acquisition target that is a poor cultural fit, while another 33% would require discounts between 10%-30% of the purchase price of the target. Culture influences a range of financial decisions such as investment and risk-taking. The survey data received provides a theory of corporate culture that has (1) executives who believe culture has large and persistent effects in magnitude, both on the upside and downside, for firm value, (2) power to influence many corporate policies rather than a select few, (3) greater efficacy when the cultural norms embodied by the day-to-day actions of employees support the cultural values, and (4) effective culture requires investment, and acknowledgement of how people (leaders, investors)
and formal systems (governance, incentive compensation) may be working for or against such optimal investment. In conclusion, we believe corporate culture deserves substantial research going forward and we hope our paper helps provide a foundation to enable such future work.
While policymakers explore electrification mandates, bans on natural gas, and other electric-preferred methods, the findings in this working paper by Lucas Davis at the Energy Institute of Haas show that electrification has already been steadily increasing in U.S. homes over the past 70 years. Potential explanations of this large increase are explored by examining energy prices, geography, climate change, housing characteristics, and household income. The predominant factor is energy prices, which highlights the importance of efficiently pricing energy. The paper also estimates the household consumers’ “willingness to pay” should they choose to avoid any potential electrification mandates. The results showed that houses in warm states are close to indifferent between electricity and natural gas, so would cost an average of $300 annually. Houses in cold states, however, tend to strongly prefer natural gas making their annual cost $1,000 or more. This data can be used to more effectively explore the cost-benefits of electrification mandates and potential subsidy amounts to induce households to choose electric heating.
Over the past decade, a growing number of companies have voiced support for major federal climate change policy initiatives from the Kyoto Protocol in 1998 to the Paris Climate Agreement in 2015. The dynamic landscape of business policy underlines the importance of encompassing political advocacy as part of corporate social responsibility. While there have historically been divisions in policy initiatives, the paper observes an interesting occurence in that while an increasing number of companies and investors have voiced support for national policies, opposition has remained dominant. This paper attempts to explain why there has been so little progress in commitment to or implementation of comprehensive policies at the federal level. One explanation is that business support for climate change is exaggerated and is more strategic or rhetorical. Another explanation is the challenge of collective action given how differently various policies affect the business community. A third explanation relates to the relative economic incentives of business supporters and opponents. The long-standing status quo represents an equilibrium that neither financially disadvantages those that are engaged in reducing greenhouse gas emissions nor financially disadvantages those that are unwilling to engage. It does, however, weaken the United States’ ability to adequately address the risks of global climate change.
Corporate sustainability today has taken meaningful steps forward. Four-fifths of the Fortune 500 global companies issue sustainability reports detailing steps to improve their own environmental performance. One key area that is missing from the discussion, this paper argues, is the political actions by corporations. There must be a new set of norms for corporate social responsibility that includes the extent to which firms support or oppose public policies that contribute to sustainability by being as transparent about their political activity as they have been about sustainability activity. The concepts of CSR and corporate sustainability need to be reinvented and expanded to include more responsible engagement with government. The major challenge will be developing evaluative frameworks for assessing the extent to which corporate political action supports policies that will truly lead to more sustainable outcomes. The challenge for managers will be whether to embrace this movement and take a leadership position in support of greater transparency around corporate political action, or to resist it for as long as possible. Either way, as demands for political transparency grow, it will become increasingly difficult for companies to execute a strategy that involves contradictions between virtuous public statements and self-serving lobbying and other political activities
Green Sustainability
Pollution has many costly externalities, such as infant mortality, neurodevelopmental disorders, cancer, and even death. One area that this paper explores is the impact of opening toxic-emitting plants on executive departures from neighboring firms and the stock returns of those firms. Executives, as opposed to employees, have direct impacts on corporate policies and performance and have traceable data over time and across corporations. This paper cross-examines data measured from 2000 to 2014 on the career paths of all executives at S&P 1500 firms and plants emitting toxic airborne pollutants in order to assess the impact. The findings show that the opening of a toxic emitting plant increases the rate at which executives depart from firms that are geographically close. This is especially pronounced among executives with more general human capital skills, or skills that are highly valued by other firms, as opposed to firm specific skills. The findings hold true for executives who are likely to work regularly and physically at the firm. As a result, stock returns at these firms fall subsequent to the announcement of the executives’ announcements. This paper highlights the additional negative and costly externality of air pollution.
Actions taken by companies to reduce pollution have many long-term benefits such as reduced fines, increased health and productivity of workers, and enhanced reputation. However, there are also typically heavy upfront costs that might affect how firms react to changes in credit conditions. This paper demonstrates the broader ramifications of financial frictions on the economy and society through the evaluation of the impact of credit conditions on firms’ emissions of toxic pollutants by examining shocks that tighten and ease a firm’s access to credit. First, liquidity shocks to individual banks due to unexpected technological breakthroughs in shale fracking increase liquidity of shale-counties. Due to the broader network effects, banks in non-shale counties experience increased credit lending. Similar liquidity shocks in shale-counties increase the liquidity and credit of firms headquartered in non-shale counties. Each of these positive shocks to credit conditions resulted in lower toxic pollution in the county. Credit tightening through the global financial crisis was then examined, analyzing data from firms with debt maturing the year before the crisis as well as firms who held private-label MBS as opposed to agency-backed MBS. This is because banks who held privately-labeled MBS were shown to have been exposed to more substantial losses due to the housing market crash. These scenarios of credit tightening resulted in increased toxic emissions in the county. Across all of these scenarios, it is clear that credit conditions materially shape firms’ decisions regarding the release of toxic pollutants.
Firms are increasingly announcing targets to reduce their carbon emissions, but it is unclear whether firms are held accountable for these targets. In this paper, we examine emissions targets that ended in 2020 to investigate the prevalence of missed targets, how firms disclose target results, and whether there are consequences for missed emissions targets. Using data from the CDP, 1,041 firms have emissions targets ending in 2020, of which 88 (8%) failed and 320 (31%) disappeared. We find limited evidence of accountability and low awareness of the target outcomes. Only three of the failed firms are covered by the media. After a firm fails its 2020 emissions target, we do not observe significant market reaction, changes in media sentiment, environmental scores, and environment-related shareholder proposals. In contrast, we observe significantly positive reactions in media sentiment and environmental scores when firms initially report setting their 2020 emissions targets. Our findings underscore the importance of institutions increasing transparency and holding firms accountable for emissions target outcomes, providing insights for emissions targets ending in 2030, 2040, and 2050.
Impact and Inequality
The Low Income Housing Tax Credit (LIHTC) program is one of the main federal government initiatives designed to promote affordable housing. Subsidized housing is often focused on easing low-income households’ housing costs and providing access to financially out-of-reach neighborhoods. This paper explores this place-based policy and the spillover effects onto neighborhood residents. The data shows that LIHTC construction in neighborhoods with a median income lower than $26,000 increased property values by 6.5%. The price appreciation stems from the attraction of higher-income home buyers in low-income areas. In contrast, neighborhoods with a median income greater than $54,000 decreased property values by 2.5%. The declines were only seen in high-income areas with a minority population of less than 50%, as the development was shown to attract lower-income home buyers in higher-income areas with low minority populations. These effects also have to do with how affordable housing is viewed, either as an amenity or disamenity. In lower-income areas, affordable housing is viewed as an amenity and therefore higher-income households are willing to pay more for proximity to the development. However, in higher-income areas, affordable housing is viewed as a disamenity and therefore higher-income households are willing to pay more to live further away. These findings show that affordable housing effects differ dramatically on neighborhood residents depending on the neighborhood income and minority share of the population. Since the goals of many affordable housing policies are to decrease income and racial segregation, the federal government should consider investing in affordable housing in low-income and high-minority areas to spark inflow of high-income and more racially diverse residents.
Real Estate
Seasonal wildfires across California are expected to increase in likelihood as climate change continues to cause destructive weather events. This paper examines the short- and long-term effects of wildfires in California on key housing- and mortgage-related performance outcomes such as pricing dynamics and mortgage default. Four key questions were addressed including 1) Is it possible to predict which housing locations have elevated wildfire risks based on their preconditions? 2) Is there evidence of long-ren post-fire differentials in the quality of housing stock, house price dynamics, and household demographics and wealth? 3) What are the mortgage default risks of wildfires? and 4) How sustainable is the current pricing of fire casualty insurance and the associated benefits to the mortgage market under state insurance regulations? Based on the data analyzed, there are positive post-fire effects five years later of increased market values of houses as well as increased increased income and wealth for those houses within a one-mile ring of the directly affected areas. This is due primarily to externalities afforded by large fires, in that the coordinated efforts of rebuilding the devastated area between builders and insurance companies often ensure homes are rebuilt up to higher standards and therefore more valuable. Also, the data shows a significant increase in mortgage delinquency and foreclosure post-fire, with the level of default and foreclosure decreases with the size of the fire. These results provide a framework with which to quantify the risks of climate-related catastrophes on housing and mortgage markets which, with a well-functioning casualty insurance market, offers a way to address policy issues and build benchmark models to evaluate insurance company probabilistic models.
Environmental, Social, and Governance (ESG)
This paper explores the field of responsible investing and ESG integration as it relates to various practices and recent research. Modern responsible investment encompasses (1) alignment of portfolios with client values, (2) integration of ESG factors, and (3) impact. The performance effects of typical exclusion policies apparently remain benign, but recent research suggests that some ESG factors, notably carbon exposure, may bear strongly on portfolio risk. The emerging evidence on engagement is potentially disruptive, with a small but strong group of papers suggesting that it can positively affect financial and stock market performance, as well as the investment behavior of corporate managers. With new practices and findings emerging in each of these areas, investment professionals will be challenged to keep up with the pace of innovation and, in an increasingly competitive marketplace, to implement these policies at a high standard.
As investors, wealth generation is a common goal; however, when it comes to investing in assets with both social and financial objectives, do investors knowingly accept lower returns? This paper examines dual-objective venture capital funds versus traditional venture capital funds and their ultimate performance metrics. Ultimately, the findings show that impact funds earn 4.7 percentage points lower, and impact investors are willing to forgo 2.5 to 3.7 percentage points in expected excess IRR. This willingness to pay varies depending on who controls the capital, with investors that have mission objectives like foundations and public pensions exhibiting higher willingness to pay. However, those subject to legal restrictions exhibit low WTP. Recent growth in fundraising by impact infrastructure funds like KKR and Bain Capital is consistent with asset managers striving to meet investors’ demain for dual-bottom line funds. Based on these findings, capital allocation decisions are shaped by the real-world consequences of the investments that people make which highlights the need for future research that explores the various factors.