Between a Rock and a Green Place: The Paradox of ESG and Financial Conservatism

This paper investigates the trade-off between Environmental, Social, and Governance (ESG)
commitments and financial conservatism. We aim to understand how ESG performance and firmspecific
characteristics influence the likelihood that companies will adopt financially conservative
policies.
We conduct a Logit regression analysis using a sample of non-financial publicly listed UK firms from
2014 to 2019. The analysis evaluates how ESG scores and internal firm characteristics impact the
probability of adopting one or more forms of financial conservatism. The choice of a financial
conservative policy may depend on the firm’s overall ESG performance, reflecting a strategy to align
financial prudence with sustainability goals.
Our findings show that board independence plays a variable role across different financial policies and
over time. We identify a negative relationship between ESG performance - particularly in
Environmental and Social dimensions - and the adoption of high-cash or combined high-cash/lowleverage
strategies. One possible explanation is that firms with strong ESG engagement may allocate
more financial resources toward sustainability initiatives, thereby reducing excess cash holdings or
altering capital structure choices. Meanwhile, the effect of profitability on financial conservatism
remains ambiguous, suggesting the presence of complex, interacting drivers.
This study is among the first to frame ESG engagement as potentially in conflict with financial
conservatism, highlighting a paradox that extends current theories linking ESG to firm risk and capital
structure. By highlighting the potential trade-offs between sustainability efforts and financial
conservatism, the paper provides valuable insights for investors, managers, and policymakers aiming
to align financial prudence with long-term ESG goals.