ESG Credibility and Firm Profitability in An Emerging Market: Evidence from ESG Controversies and ESG Gap in Indonesia

Abstract

ESG is an important channel for a firm's relationship with its stakeholders. The firms are required to not only focus on profit, but they should also consider environmental, social, and governance. This study examines the relationship between Environmental, Social, and Governance (ESG) performance and firm profitability in an emerging market, with a particular emphasis on ESG credibility. Using a balanced panel dataset of 58 firms listed on the Indonesia Stock Exchange (IDX) over the period 2021–2024 (232 firm-year observations), this study employs ESG data from Refinitiv/LSEG and annual financial statements to measure profitability using Return on Assets (ROA). The empirical model is estimated using fixed-effects panel regression with firm-level clustered robust standard errors. The results indicate that the direct relationship between ESG performance and profitability is not supported in the Indonesian context. However, reputational risk plays a critical role: ESG controversies are significantly associated with profitability, and when operationalized as a high-controversy indicator (Controversy High), this variable exerts a negative effect on ROA. The key finding of this study demonstrates that the ESG Gap (ESG Score − ESGC) has a negative and highly significant impact on ROA, indicating the presence of a credibility penalty when the discrepancy between headline ESG performance and controversy-adjusted ESG scores widens. Robustness tests using an alternative profitability proxy (Net Margin) and alternative ESG measures confirm that the direct effect of ESG on profitability is relatively weak, whereas ESG credibility indicators are more informative. This study contributes to the literature by reinforcing the ESG credibility perspective and providing empirical evidence of reputational penalties and potential greenwashing in emerging markets.                                               
Keywords: ESG credibility; ESG gap; ESG controversies; profitability (ROA); fixed effects panel regression