Does ESG performance enhance investment efficiency and firm performance? Evidence from Japan

This study examines the association between investment sensitivity to growth opportunities, firm performance, and environmental, social, and governance (ESG) performance in Japanese listed firms. To determine whether ESG performance is associated with a firm’s investment sensitivity to growth opportunities rather than directly increasing investment levels, panel data covering the period from 2002 to 2023 and an investment-Q sensitivity framework are employed. To evaluate robustness and reduce endogeneity issues, high-dimensional fixed effects (HDFE), the System Generalized Method of Moments (GMM), and a difference-in-differences (DID) design based on Japan’s post-2015 governance and disclosure environment are added to the baseline fixed-effects estimations. The findings show a positive association between investment-Q sensitivity and ESG performance, indicating a conditional association wherein firms with higher ESG performance are more receptive to expansion prospects. The findings, however, contradict the hypothesis that ESG performance and investment intensity are consistently associated. Stricter identification techniques diminish positive baseline associations, demonstrating sensitivity to model specification and cross-sectional firm variations. As a result, firm performance results are mixed. Governance-related factors are comparatively more consistently associated with investment outcomes across all ESG components. By focusing on ESG performance and capital allocation behavior under various economic scenarios rather than on whether ESG generally enhances firm outcomes, this study expands the ESG literature. The results imply that ESG serves more as a governance and information mechanism associated with investment sensitivity than as a reliable indicator of firm performance or investment efficiency.