The Unpredictable Financial Environment of Sustainability : A Multiple Case Study Examining Risks Associated with Environmental Sustainability and Its Perceived Impact on Financial Performance

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The Unpredictable

Financial Environment of

Sustainability

A Multiple Case Study Examining Risks Associated with Environmental

Sustainability and Its Perceived Impact on Financial Performance

MASTER THESIS WITHIN: Business Administration NUMBER OF CREDITS: 30 ECTS

PROGRAMME OF STUDY: Civilekonom AUTHORS: Daniel Faag & Vendela Sandstedt TUTOR: Johan Karlsson

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Abstract

Global warming and environmental impact are topics that have received increased attention in recent years. Research suggests that companies should take more responsibility for this impact. Scholars have expressed contradicting opinions on whether these sustainability initiatives result in new risks and thereby lead to worse financial performance or will benefit the organization. This qualitative multiple case study uses an abductive approach to examine how risks associated with environmental sustainability initiatives are perceived to impact financial performance as well as how these risks can be managed in practice. Based on existing literature on environmental sustainability, risk management, and financial performance combined with interviews conducted with six representatives from three different companies in the Swedish manufacturing industry, a framework is developed. The framework presents a link from sustainability initiatives to risks, which can result in negative impacts on financial performance. The study further shows a positive relation between sustainability and financial performance, indicating that financial benefits can be gained from working with sustainability. Additionally, it is found that sustainability-related risks should be managed differently than business-related risks in organizations. The presented framework therefore indicates a necessity of establishing sustainability risk management strategies. The four main strategies identified were i) creating a shared mindset which allows for understanding of risks in the organization, ii) increasing communication and collaboration across departments, iii) actively working with risk identification to understand its behavior, and iv) establishing constant revision of risk management strategies.

Keywords: Environmental sustainability, Risk management, Financial performance, Sustainability risk

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Acknowledgements

There are several people we would like to take the opportunity to thank for their support throughout the work with our thesis. The support and contributions from these people have given us valuable insights and helped improve the quality of the paper you are about to read.

First, we would like to express our gratitude to our thesis supervisor, Johan Karlsson. The feedback and inputs given have guided us and given us useful knowledge on ways to improve the paper. This combined with encouraging comments and support have been of great value over the months working on the paper.

Secondly, we would like to thank the students we have worked with over the course of this paper. Being able to get feedback from other writers helps evoke new points of views and bring new insights to the table. We are grateful for the time these students have spent reading through our texts and supplying us with thoughtful constructive criticism.

Thirdly, a big thank you to the three companies that allowed us to conduct interviews for the data collection of this study. The six respondents have all contributed with both time, energy, and enthusiasm, but most importantly with great insights, which allowed for substantial analyses and ultimately made the writing of this paper possible.

Finally, thank you to all of our friends and family for showing interest in our work and being supportive throughout the months leading up to the finalization of our final master thesis. Thank you!

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1. Introduction

This introductory section will present the background to the topic, the identified research gaps and limitations of existing research in the field, as well as the purpose and research questions of this study.

1.1 Background

The debate regarding companies’ actions for environmental sustainability has been gaining greater attention in the last decades, where 89 % of large corporations and 82 % of medium sized corporations in Sweden are actively working with sustainability (Tillväxtverket, 2018). It can similarly be seen that customers are to a greater extent reflecting on organizations’ impact on the environment when making purchasing decisions (Shao & Ünal, 2019), and several studies are signifying the positive relation between corporate responsibility and customer loyalty and satisfaction (e.g., Islam et al., 2021; Martínez & Rodríguez del Bosque, 2013; Pérez & Rodríguez del Bosque, 2014). Combined with the need to comply with laws and regulations concerning sustainability (Lozano, 2012), these are notable factors that lay pressure on organizations to emphasize sustainability. Corporate sustainability can thus be described as a top strategic priority with importance equal to organizations’ social and financial objectives (Brockhaus et al., 2017). With larger organizations often being perceived as most accountable for negative impacts on the society and environment (Küpers, 2011), they are consequently the organizations which are placing more emphasis towards sustainability dimensions (Lozano, 2013).

Organizations working with sustainability can enjoy financial benefits such as competitive advantage (Hockerts, 2014) and reduced variable costs as a result of resource efficiency (Delmas et al., 2015). On the other hand, sustainability initiatives have been argued to require large initial investment costs that can bind capital (Amankwah‐Amoah, 2019), which thus negatively impacts the organization’s financial performance. Environmental initiatives hence generate risks that can influence the success and financial performance of the company (The Committee of Sponsoring Organizations of the Treadway Commission [COSO], 2018). With growing expectations from stakeholders regarding cautious oversight of risks that enterprises face to preserve stakeholder value, enterprise risk management has emerged as a paradigm to facilitate managers to oversee risks (Beasley et al., 2005). If an organization manages to successfully

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demonstrate strong enterprise risk management capability and discipline, they can also experience benefits such as competitive advantage (Beasley et al., 2005; Bromiley et al., 2015).

As a result of the demonstrated importance of the topic and its potential effects on a firm’s performance, it is imperative that the subject is studied to a greater extent. There are additionally some limitations and gaps with existing research that opens for the topic to be further investigated. These will be discussed in the upcoming section.

1.2 Problematization

Two primary gaps have been identified within the existing literature. First of all, the current studies have not properly considered the three factors of environmental sustainability, risks, and financial performance collectively. Instead, several studies have been conducted regarding the relation between only sustainability and risk management (e.g., Anderson & Anderson, 2009; COSO, 2018; Krysiak, 2009; Lenssen et al., 2014). Similarly, research has also explicitly studied the link between sustainability initiatives and financial performance (e.g., Aggarwal, 2013; Nizam et al., 2019; Soytas et al., 2019; Wagner & Blom, 2011). An extensive literature regarding enterprise risk management furthermore holds the view that its main objective is to maximize company profits and stakeholder value (e.g., Friedman, 1970; Parmar et al., 2010; Soomro & Lai, 2017). Because of this focus, some authors argue that enterprise risk management does not properly consider external factors such as environmental and societal risks (Saardchom, 2013; Soomro & Lai, 2017). The aim of this study is therefore to combine the three aspects of environmental sustainability, risks, and financial performance. By doing so, the study holds the potential to build knowledge about how these three important concepts relate to one another.

A second gap in current research on sustainability in connection to financial performance is that many studies so far have focused on social sustainability and corporate social responsibility rather than environmental sustainability (e.g., Aras et al., 2010; Charlo et al., 2017; Van de Velde et al., 2005). There are still studies where sustainability and financial performance have been investigated in the context of both social and environmental sustainability (e.g., Ahmed et al., 2019; Nizam et al., 2019; Phan et al., 2020; Przychodzen & Przychodzen, 2015; Soytas et al., 2019). However, they do not include the risk factor as part of their study. By also focusing solely on environmental sustainability, the authors aim to gain new knowledge that can more accurately be applicable to firms focusing on environmental sustainability.

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An additional limitation in existing research is that the current findings remain contradicting. Some authors present a positive relationship between corporate sustainability and financial performance (e.g., Van de Velde et al., 2005; Soytas et al., 2019), while others argue that corporate sustainability has no significant influence on the latter (Aggarwal, 2013). Other researchers further claim that financial performance is only positively associated with the sustainability level of well-performing firms, and has a negative effect on low-performing firms (Wagner & Blom, 2011). The same contradicting results are present when it comes to risk management, where Tran et al. (2019) find that sustainability initiatives reduce risk and thereby lead to better financial performance. However, Ferri and Pedrini (2018) instead shows that such initiatives only reduce risk in the short run, and financial performance is affected positively in the long run. A third view by Haryono et al. (2016) claims that sustainability affects financial performance in both time aspects but does not show an impact on their risk management in either aspect.

This study aims to fill the current gaps in the literature concerning lack of research where the three components are investigated collectively and the lack of focus on environmental sustainability. Further, it aims to provide a consensus about the contradicting results in the existing research. This will be reached by combining the concepts of environmental sustainability, risks, and financial performance. The aim is further pursued by conducting a multiple case study with three companies from the Swedish manufacturing industry that are working with environmental sustainability. As studies have shown a great increase in the environmental sustainability-focus in firms (Tillväxtverket, 2018), the issues concerning the risks imposed as a result of these initiatives are raised. Still, when making decisions on topics such as sustainability efforts, firms also have an obligation towards stakeholders to maintain satisfactory financial performance (Gamache et al., 2020). This dilemma combined with the presented limitations therefore highlights a need to research sustainability, risks, and financial performance together, and how these sustainability-related risks can better be managed.

1.3 Purpose

The purpose of this study is to examine the implications that arise from managing the risks associated with environmental sustainability efforts and its perceived impact on financial performance. The aim is to provide a clearer perspective of the relation between environmental sustainability, risks, and financial performance, as well as identifying strategies that can be used to manage the risks. Thereby, the findings can be used as a base for future research and assist organizational management.

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1.4 Research question

Based on the identified research gap and the purpose of this study, our research questions are the following:

I. How do environmental sustainability, risks and financial performance relate to one another? II. How can organizations manage the risks associated with environmental sustainability efforts and

their perceived effects on financial performance?

1.5 Delimitations

Since the three core concepts of sustainability, risks, and financial performance can be divided into subcategories, the authors have decided to limit the study into the following: In terms of sustainability, this study will primarily focus on environmental sustainability. Regarding risks, this study will keep an open perspective and allow for different types and views on risk, as long as it is within the frame of this study. Financial performance will be investigated in terms of perceived accounting-based financial performance. Perceived, in this context, means that financial performance will be based on the respondents’ perspectives and understandings of how it will behave, rather than numerically collected accounting data.

Furthermore, the study is conducted in the Swedish manufacturing industry. Therefore, other industries and markets might behave differently, and the results of this study may thus not necessarily be applicable in other contexts, even though the authors attempt to draw general conclusions. Additionally, this study is interviewing people working with either sustainability or financial aspects. Hence, their particular views on perceived effects of sustainability-related risks on financial performance will be the focus of this study, which thus leaves out the perspectives of people in other positions of the organizations.

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2. Theoretical framework

This section will present research that has previously been conducted in this field. It starts with an overview of the study’s three core concepts of sustainability, financial performance and risks, and later proceeds to make a comparison of the research conducted over the three topics. The section is concluded with a conceptual framework which graphically summarizes existing research and the relation between the three factors.

2.1 Sustainability

In general terms, sustainability can be understood as the task of meeting today’s needs without negatively impacting upcoming generations’ ability to meet theirs (Brundtland, 1987). In the corporate context, sustainability is a subject that has been widely studied over the years (Linnenluecke & Griffiths, 2010) and has traditionally been described as the economic performance, growth, and long-term profitability of the organization (Linnenluecke et al., 2009). However, some researchers define corporate sustainability differently, such as an organization’s attempt to act socially responsible (Carroll, 1999), based on ecological concerns (Shrivastave, 1995) or as a broader concept where organizations integrate economic activities with environmental concerns (Dyllick & Hockerts, 2002). The meaning of sustainability thus tends to vary depending on in what context it is presented (Näyhä & Horn, 2012). Sustainability is, in turn, commonly divided into three dimensions: environmental-, social-, and economic sustainability, which is also known as the triple-bottom line (Goyal et al., 2018). In some contexts, human sustainability is added in addition to these three dimensions, even though it is not as prevalent (Näyhä & Horn, 2012).

Environmental sustainability concerns the assumption that organizations are operating within the natural environment rather than being separated from it. Their actions can thus have a negative impact on the environment, for example through greenhouse gas emissions and over-exploitation of natural resources (Linnenluecke et al., 2009). Environmental sustainability can furthermore be described as a state in which all life forms can exist alongside each other forever (Goyal et al., 2018), which require that resource consumption should remain at a reasonable level. The challenge for organizations to achieve environmental sustainability can in this perspective be understood as the task of minimizing the use of natural resources and the organization’s ecological footprint (Linnenluecke et al., 2009).

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In social terms, sustainability concerns the requirements for organizations to assume responsibility towards stakeholder groups and the social environment in areas such as health and safety, discrimination, fraud and business ethics, minority concerns and community welfare (Linnenluecke et al., 2009). In other words, it can be understood as the consideration of social issues in management decisions, for example in areas such as purchasing and production (Mani et al., 2018).

Economic sustainability concerns the maximization of profit, production, and consumption (Linnenluecke & Griffiths, 2010). It has generally been assumed that the firm operates in the best interest of the shareholders by aiming to maximize wealth (Friedman, 1970; Parmar et al., 2010; Soomro & Lai, 2017), thus meaning that actions that are environmentally and socially desirable will not necessarily be undertaken if they do not directly benefit the shareholders (Linnenluecke et al., 2009). Later studies have still shown that actions that are socially or environmentally beneficial can in fact benefit the company’s performance and competitive advantage (e.g., Atz et al., 2020; Hockerts, 2014). This aspect will be further discussed in upcoming sections.

As shown in this section, multiple types of sustainability can be identified. However, the focus and limit of this paper will be on environmental sustainability, and to some extent economic sustainability in terms of financial performance. Hence, social and human sustainability will not be covered in this study. One of the reasons for this is the fact that the area of environmental sustainability in relation to risks and financial performance was identified to be underexplored. Furthermore, the authors find it relevant to limit this study to environmental sustainability as this is an area in which organizations are currently putting more effort towards (Tillväxtverket, 2018).

2.1.1 Drivers to act sustainable

There is a vast amount of research on what motives companies have to act sustainable. For example, Bansal and Roth (2000) found three main drivers for ecological responsiveness, namely competitiveness to create long term profitability; legitimation when complying with regulations; and ecological responsibility to increase employee morale and satisfaction. Epstein and Roy (2001) present some further benefits of sustainability actions, such as better access to capital, because potential investors put greater emphasis on sustainable investments. Cost reductions resulting from less waste and energy consumption is another driver discussed by Epstein and Roy (2001), which can also be a result of improved efficiency and lead to increased customer satisfaction.

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Lozano (2012) divides drivers for corporate sustainability to change into two categories: external and internal. External drivers are those that come from outside of the company, such as government policy, as well as pressure from non-governmental organizations and stakeholders, such as customers (Green et al., 2012; Lozano, 2012). Other external drivers mentioned in literature concern the efforts of businesses to adapt to the standards of the industry and their competitors (Sharma, 2000), as well as improving trust and customer satisfaction and increasing access to markets that are valuing sustainability (Lozano, 2012). These improved relations with stakeholders and regulators can in turn lead to easier access to permits (Epstein & Roy, 2001; Lozano, 2012). However, the external drivers to act sustainable might only result in reactive measures to these drivers rather than fundamentally moving the organization towards more sustainable practices (DeSimone & Popoff, 2000).

Internal drivers tend to be more proactive in their nature. They are factors such as ethical leadership, risk management, increased product quality, attracting employees and increasing their productivity, as well as reducing costs and waste while improving process efficiencies (Lozano, 2012). Other significant internal drivers are improving economic values, building a positive brand reputation and image, satisfying, and creating long-term value for stakeholders and increasing profits (Ditlev-Simonsen & Midttun, 2011; Lantos, 2001; Zhu et al., 2005). It can thus be noted that some of the drivers presented as internal are similar to those that other authors have instead presented as external drivers.

Hockerts (2014) further identified four dimensions in literature through which organizations can gain competitive advantage by working with corporate sustainability. These are reductions of business risks, efficiency gains, social branding, and new market creation. The risks claimed to be reduced as a result of working with corporate sustainability includes the risk of being prosecuted for violating environmental laws (Kassinis & Vafeas, 2002) due to the emergence of stricter regulations over time (Simons et al., 2003), and the risk of damage to the corporate brand (Barnett & Hoffman, 2008). The second competitive advantage was efficiency gains in the sense that eco-efficiency can reduce waste, resource consumptions and costs (Stefan & Paul, 2008), and lower cost of capital as a result of improved environmental management (Sharfma & Fernando, 2008). Furthermore, employee productivity can be increased through a good corporate reputation stemming from the sustainability initiatives, which in turn attracts, motivates, and retains employees (Hockerts, 2014). Improved branding can also result in competitive advantage, in the sense that sustainability efforts can lead to customer acquisition and retention, and companies can potentially charge premium prices for their products if these products are environmentally superior (Wüstenhagen, 1998). However, there seems to be a gap between customers claiming they are willing to pay a premium for responsible products and their actual purchasing decisions (Moon et al., 2002; Ward et

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al., 2011). Finally, corporate sustainability is often seen as a driver for the creation of new market spaces due to the opportunity to reach customers who are interested in sustainability (Hockerts, 2014). These four competitive advantages that can result from working with sustainability are thus some further drivers for initiating efforts concerning sustainability.

2.1.2 Obstacles when acting sustainable

Organizations working with sustainability can face obstacles of different kinds. Sustainability strategies should thus consider potential uncertainties (Giannakis & Papadopoulos, 2016). Previous studies have identified several obstacles that hinder organizations from acting sustainable. Sharma (2000) writes that the process of voluntary sustainability actions comes with risks of disruption and added complexity to the current production for a manufacturing company and its managers, since the process involves searching for innovative technologies. This can in turn threaten jobs, current operations, and operating systems (Sharma, 2000). It can further be intensified by resistance to change by employees at different organizational levels, and might be an obstacle for organizational changes regarding, for example, corporate sustainability initiatives (e.g., Bovey & Hede, 2001; Gill, 2002; Lozano, 2012). This resistance can stem from fear of the unknown, dislike of the imposed change, dislike of disturbance in practices and habits, fear of shift in power and influence, and lack of conviction that the change is needed (Gill, 2002; Zhu et al., 2005).

Laukkanen and Patala (2014) moreover show that poor institutional quality may create disincentives for sustainable practices. They further argue that if an option would result in less financial gains for the firm, it could in turn act as a barrier for sustainable initiatives and thereby instead result in a non-sustainable outcome. Research conducted by Grodach (2011) states that competing interests of the organization can also be an obstacle for sustainable investments through different prioritization, as well as limits in time and resource availability, resulting in less focus on sustainability. Grodach (2011) furthermore raises the question of how focusing on one type of sustainability, such as social or economic sustainability, might inadvertently result in barriers to implement the other types of sustainability initiatives. This means that the process of implementing sustainability measures can be difficult due to potential complications arising from the attempt of executing multiple sustainability initiatives at once. As with any investment, the decision must be made regarding expected risk in relation to reward (Statman & Tyebjee, 1984), since the outcome of an investment is partly unknown until after a project is finished.

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2.2 Financial aspects

Financial performance is commonly determined across three dimensions: accounting-based, market-based, and perceptual (Lu et al., 2014). Accounting-based financial performance can broadly be described as the created value in combination with the attained efficiency of an organization. This can refer to key performance indicators (KPIs) such as return on assets, revenue, and net interest rate of sales. (Liu, 2019) Meanwhile, market-based financial performance focuses on stock price and general market value, whereas the perceptual method uses surveys to collect estimates and descriptions of a firm’s performance (Lu et al., 2014).

The topic of financial performance has been discussed in different contexts and perspectives. However, the scope of this study will be based on perceived financial performance from an accounting-based approach as it provides adequate measures and allows the respondents to describe the expected results in a way that is comparable across companies and industries. Additionally, the accounting-based approach allows the case companies to better remain anonymous compared to a market-based approach. Financial performance can further be measured both from a short- and long-term perspective, both of which this study will consider.

2.3 Risk management

The existing literature on risk management presents several varying viewpoints of what risk is and what types of risks companies encounter. Holton (2004) states that risk entails two components: exposure and uncertainty, and that risk is exposure to a proposition to which you are uncertain. They further argue that risk is a condition of individuals like humans that are aware, and that organizations that are not self-aware are incapable of being at risk. Organizations are rather claimed to be constitutes through which members of the organization, such as investors and employees, take risks. Fatemi and Luft (2002) claims that there are generally three sources of risks that firms encounter, namely business risk, strategic risk, and financial risk. Business risk is inherent in the firm’s operations. Strategic risks are generally more long lived than business risks, and can be economic or political, and domestic or international events. Financial risks are those that come from changes in for example interest rates, commodity prices and currency values. Lueg et al., (2019) on the other hand divides risks that companies working with sustainability can face into systematic risks, which are general market risks, and idiosyncratic risks, which are company-specific risks. According to Choudhary et al. (2019), risk is a multidimensional concept in the sense that organizations perceive the same risks in different ways. This means that while some organizations might find a situation

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to be of high risk, others may find the risk to be smaller, and that the risk preference of the organization determines to which extent they are willing to take risks (Choudhary et al., 2019).

Multiple definitions of risk management have been identified in the literature. However, due to varieties in views and definitions, the authors will neither limit the study to one type of risk nor one definition. Therefore, this study will keep a holistic view on the term and include risks deemed suitable by the respondents from the interviews in the context of sustainability and financial performance. The risks in focus of this paper will thus be those related to sustainability efforts and financial performance as presented in the previous sections concerning risks related to acting sustainable.

2.3.1 Risk management frameworks

Numerous of the prominent business- and financial risks that organizations face are directly linked to environmental issues. Risk management has been found to be an effective tool in finding a balance between being too passive and too proactive with sustainable innovation. (Schulte & Hallstedt, 2018) Authors such as Krysiak (2009) have demonstrated the need and possibilities for employing risk management methods regarding sustainability. By defining sustainability as the obligation to minimize the risk of harming future individuals, Krysiak (2009) provides a framework in which risk management tools can be used to analyze decisions regarding planning and calculating strategic policy risks. Similarly, Schulte and Hallstedt (2018) suggests three key steps for incorporating strategic sustainability perspectives into risk management. The three steps are i) identifying how sustainability issues will affect internal and external stakeholder value, ii) actively include sustainability in an objective setting across the organization, and iii) develop mechanisms for identification, assessment, and management of economic sustainability risks.

Sustainability risk management is a process which can contribute to long-term business sustainability. It aims to identify and control risks of harm to the sustainable development of the organization which have long term economic, social, and environmental effects. (Valinejad & Rahmani, 2018) Enterprise risk management is the process of identifying events that could affect the organization and manage these risks to assure the organization achieves its objectives (COSO, 2004). It also proposes that organizations address all of their risks comprehensively rather than managing each risk individually (Bromiley et al., 2015). The main objective of enterprise risk management is often presented in literature as maximizing profits and stakeholder value (COSO, 2004; Soomoro & Lai, 2017). It can further help organizations avoid damage to their reputation, help ensure effective reporting and compliance with laws and regulations (COSO, 2004) and generate competitive advantage (Beasley et al., 2005; Bromiley et al., 2015).

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The Committee of Sponsoring Organizations of the Treadway Commission (COSO) has developed several frameworks regarding risk management. One of these frameworks is the Enterprise Risk Management Integrated Framework (COSO, 2004), which has become a world-known template for best practices regarding risk management (Chiu & Wang, 2019; Power, 2009). The mentioned framework seeks to help entities achieve their strategic-, operational-, reporting-, and compliance objectives while considering certain interrelated components of enterprise risk management. The framework assumes a direct relationship between the organization’s objectives (what an organization strives to achieve) and the risk management components (what is needed to achieve the objectives). The components are then linked to the units of the organization. Altogether, the framework provides directions when evaluating and enhancing the effectiveness of the management or enterprise risk. (COSO, 2004)

A second framework developed by COSO takes environmental, social, and governance (ESG) aspects into account (COSO, 2018). The framework acts as guidance for decision-makers and practitioners of risk management and sustainability to apply concepts of enterprise risk management to ESG risks. For example, it helps promote long term viability and resilience, improve resource deployment, and realize efficiency. The guidance consists of five components with suggested actions to manage these risks, while maintaining the resilience needed to respond to future trends. The five components considered are governance & culture, strategy & objective-setting, performance, review & revision, and information, communication & reporting (COSO, 2018) which will be briefly described next.

1. Governance & culture: aims to set the foundation for how decisions are made and executed, to raise awareness for ESG risks, and define desired behaviors that shape and support a culture of collaboration on risk management.

2. Strategy & objective-setting: entails a strong understanding of the business context, strategy and objectives to effectively manage risk and risk management activities.

3. Performance: concerns risk identification, assessment and prioritization of risks, and implementation of risk responses. Risk identification uses various tools and can be applied through collaboration among risk management and sustainability workers, which improves the assessment and response. Since companies have limited resources and cannot respond to all risks, it is important to prioritize the risks. Additionally, implementing innovative and collaborative approaches to risk response, that considers the source of the risk as well as costs and benefits of each approach, is supposed to increase the likelihood of success.

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4. Review & revision: entails evaluating and modifying the approaches. Organizations can use indicators which alert managers of needed changes to risk identification, assessment and response, to be communicated to internal and external stakeholders.

5. Information, communication & reporting: to support decision making that considers risks, it is suggested to consult with parties concerned with the risks to identify which information has to be reported and communicated internally and externally. (COSO, 2018)

When looking at research conducted regarding risk management and sustainability, researchers have often focused on the field of sustainable supply chain management. This is therefore worth presenting to gain an understanding about the field. Sustainable supply chain management is commonly viewed as an important factor leading to improved corporate financial performance in for example return on assets and equity, cost reductions, and long-term profitability of firms (Wang & Sarkis, 2013). However, apart from traditional risks of supply chain management such as capacity constraints and quality issues, sustainable business practices have brought additional risks to light. Some of these risks include consequences of the natural ecosystem, law compliance, reputation, financial exposure, and to meet the requirements for sharing an ecosystem. (Giannakis & Papadopoulos, 2016)

A framework developed by Xu et al. (2019) helps evaluate supply chain sustainability risks, and studies such as those made by Gouda and Saranga (2018) as well as Giannakis and Papadopoulos (2016) have examined the usefulness of risk mitigation strategies for sustainable supply chain management. The study by Gouda and Saranga (2018) found that while risk mitigation strategies might not always eliminate supply chain risks, sustainability efforts do in fact help reduce supply chain risks especially in the context of emerging markets. They further found that reactive risk mitigation strategies on their own fail to help reduce risks but that they are effective when used together with sustainability efforts, and that preventive risk mitigation is only effective in mature supply chains. The study made by Giannakis and Papadopoulos (2016) concludes that there is a need for integrated sustainability risk management approaches which can help with the development of effective sustainable strategies. This conclusion was drawn based on the finding that endogenous environmental risks are seen as the most crucial across several industries and that there is a high interconnectedness between a number of sustainability-related risks (Giannakis & Papadopoulos, 2016).

2.3.2 Risk management strategies

Along with the frameworks presented for risk management, several strategies have been identified in literature. For example, sustainability reporting and disclosure has been studied in the context of risk

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management. Kiron and Kruschitz (2015) explains that sustainability reporting can be used as a tool for identifying risks related to, for example, environmental issues. Furthermore, Shad et al., (2019) states that effective enterprise risk management has a positive impact on businesses’ overall performance and demonstrated possible relations between sustainability reporting and enterprise risk management with the performance of the business. A study made by Lueg et al. (2019) similarly examined the relationship between reporting on sustainability achievements and values, i.e., sustainability disclosure, and different types of risks. The study found that sustainability disclosure can be used to communicate with shareholders and increase transparency which thus improves risk assessment for investors and will then lower their discounts on future cash flows. Sustainability disclosure thus generally reduces systematic risk in the subsequent periods. (Lueg et al., 2019)

Integrating sustainability into the core values of the organization has proven to have a positive impact on managing sustainability risks, as shown by Wijethilake and Lama (2018). Their study further concludes that organizations which are internally committed to sustainability work more easily minimize sustainability risks. Having a committed top management also shows a positive relationship between sustainability core values and risk management (Wijethilake & Lama, 2018). Top management commitment is crucial when implementing sustainability strategies, since decisions as such involve commitment and allocation of resources as well as organizational changes (Bansal & Roth, 2000; González-Benito & González-González-Benito, 2008). Another study has further shown that factors such as CEO and CFO support for enterprise risk management and the presence of a chief risk officer and board independence positively affects the stage of enterprise risk management implementation (Beasley et al., 2005).

A study conducted by Delmas et al. (2015) indicates that external pressure to reduce greenhouse gas emissions result in positive effects on financial performance in the long run, while resulting in losses from a short-term perspective. Some researchers however claim that stakeholder pressure for sustainability does not show a significant impact on sustainability risk management (Wijethilake & Lama, 2018), nor does it indicate any increased financial performance from both short- and long-term perspectives (Liu, 2019).

2.4 Sustainability, risk management and financial performance

The existing studies concerning sustainability, risk management, and financial performance have been studied in different contexts and occasionally shown contradicting results. Researchers generally argue that there is a strong connection between investments in sustainability and an organization’s long-term growth in financial performance (Epstein & Roy, 2001; Laukkanen & Patala, 2014). By investing in sustainable

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initiatives, organizations can identify cost-efficient alternatives with both positive short- and long-term effects (Delmas et al., 2015). However, critics such as Amankwah‐Amoah (2019) claim that investing in sustainability for long-term profits is not necessarily always a good choice, because if an organization chooses to bind capital in such long-term investments, they risk losing too much financially in the short-term that it could cause bankruptcy. Still, Epstein and Roy (2001) stress that decision-makers nonetheless have to consider potential future sustainability legislations and it is thereby not viable for an organization not to consider the long-term aspects of investments and solely focus on short-term profitability. According to Gramlich and Finster (2013), sustainability has an impact on expected risks on mainly profitability within certain industries. It can still be a difference regarding what type of sustainability that is being implemented. Research has shown that an organization investing in environmental sustainability is expected to generate stronger financial performance in the long run compared to the short run (Davis-Sramek et al., 2020). However, the same study also indicates that investments in social sustainability may instead only have a positive impact in the short term.

Even though several scholars agree that investments in sustainability should have a positive effect on long-term financial performance, but not necessarily a positive effect on short-long-term performance (e.g., Amankwah-Amoah, 2019; Laukkanen & Patala, 2014), there are still researchers whose studies have indicated the opposite. Martí-Ballester (2017) studied companies’ financial performance in regard to investments in sustainable energy alternatives, and their research instead shows that investments in sustainability have a positive effect in the short term, but there is no effect on their long-term financial performance as a result of these investments. The same applies for a study conducted by Naranjo-Gil (2016), where they statistically analyze the relation between implementing sustainability policies and the short- and long-term effects respectively. Their study shows that the effect on short-term performance is significant, but the impact is insignificant in terms of long-term effects of their sustainable initiatives. Lu et al. (2014) instead argues that the relationship between sustainability initiatives and financial performance is complicated since it might not show a positive effect in the short term and that the long-term effects may not last forever but rather surge after a certain point.

A study conducted in Vietnam indicates that sustainability initiatives have a positive effect on the firm’s ability to reduce risk through risk management efforts, which in turn resulted in better financial performance (Tran et al., 2019). Similar results can also be found in a study conducted by Haryono et al. (2016) in Indonesia, where they argue that investments in sustainability will result in increased financial performance in both the long and short term. However, their study does not find any significant effect of sustainability initiatives on the firm’s risk management, which was proved in the study by Tran et al. (2019). A third

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study further indicates another different result, namely that environmental focus can help reduce risk in the short term, but it will only have an effect on the financial performance in the long term (Ferri & Pedrini, 2018). Hence, they argue that environmental initiatives do influence both risk management and financial performance, even though the time period of their effects would differ.

Looking at sustainability, risk management, and financial performance from a slightly different perspective, Gangi et al. (2020) presents a study where the result shows how firms by increasing their sustainability investments can positively affect their reputation, which in turn is associated with better financial performance at a lower rate of risk. The study further concludes that firms that emphasize more on environmental sustainability will generally outperform the firms that do not have any sustainability initiatives.

Due to the difference in opinion among the authors, these findings are summarized in Table 1.

Table 1

Comparison of studies and their argued effect on financial performance from sustainability initiatives

Authors and year Effect on financial performance from sustainability initiatives

Epstein & Roy, 2001 Long-term growth Laukkanen & Patala, 2014 Long-term growth

Amankwah-Amoah, 2019 Potential short-term losses

Davis-Sramek et al., 2020 Better in long-term than short-term Martí-Ballester, 2017 Better in short-term than long-term Naranjo-Gil, 2016 Better in short-term than long-term Lu et al., 2014 Potentially no effect on either

Tran et al., 2019 Reduce risk, and thereby leads to generally better performance Haryono et al., 2016 Increased in both short- and long-term

Ferri & Pedrini, 2018 Reduce risk, and thereby leads to better long-term performance Gangi et al., 2020 Better reputation, and thereby leads to generally better performance

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2.5 Conceptual framework

Based on the findings from the theoretical framework, a conceptual framework is presented which connects the relation between environmental sustainability, risks, and financial performance, as well as the presented drivers and related obstacles to acting sustainable. The framework is built on the relationships the authors of this study have found in the presented research and can be seen as a prototype for the relationships believed to be found in the field study.

Figure 1: The relation between Environmental Sustainability, Risks, and Financial Performance based on literature

The conceptual framework starts with the drivers for acting sustainable, presented in the arrow on the far left in Figure 1. The drivers are important to present as these are the factors which ultimately start the sustainability initiatives and further bring the risks and financial effects to the company. The drivers presented for acting sustainable are for example long-term profitability, internal efficiency, and lower costs (Lozano, 2012), access to capital (Epstein & Roy, 2001), competitive advantage (Hockerts, 2014), complying with laws and regulations (Bansal & Roth, 2000) and stakeholder pressure (Green et al., 2012).

When considering whether to work with sustainability, companies consider both potential benefits and disadvantages with the initiatives. This is represented by the box Obstacles in Figure 1, which indicates that although there are several drivers to act sustainable, some obstacles exist that also must be considered. Some of the obstacles identified are disruption of current processes (Sharma, 2000), resistance to change (Bovey & Hede, 2001; Gill, 2002; Lozano, 2012), poor institutional quality causing disincentives for

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sustainable practices (Laukkanen & Patala, 2014) and competing interests in the organization (Grodach, 2011).

In the presented framework in Figure 1, there is a straight arrow from Environmental Sustainability to Financial Performance, indicating that there should be a direct impact on financial performance resulting from environmental sustainability efforts. The presented literature has shown contradicting results on whether the effects on financial performance will be positive or negative, which hence prevents the model from showing a clear direction for this relation. The positive financial effects presented in literature are better access to capital as a result of investors increased interest in sustainable firms, cost reductions resulting from reduced waste and energy consumption (Epstein & Roy, 2001), as well as improved brand reputation and increased profits as a result of satisfied stakeholders (Ditlev-Simonsen & Midttun, 2011; Lantos, 2001; Zhu et al., 2005). Identification of cost-efficient alternatives to operations (Delmas et al., 2015) and improved financial performance as a result of positive reputation (Gangi et al., 2020) are some other financial aspects presented. A more comprehensive conclusion on how this relation behaves is expected to be found in the field study of this paper. There are also contradicting findings regarding the time frame of the effects on financial performance as a result of sustainability initiatives. Some researchers argue that sustainability initiatives lead to profitability in the long term (Epstein & Roy, 2001; Laukkanen & Patala, 2014), or in the short term (Martí-Ballester, 2017; Naranjo-Gil, 2016), while others argue for negative effects in the short term (Davis-Sramek et al., 2020), or in the long term (Martí-Ballester, 2017).

The dotted arrows surrounding the Risks box in Figure 1 resemble the possibility that risks occur when acting sustainable, which can ultimately impact financial performance. Still, with contradicting research presenting different risks and in which way these could impact the organization, it is currently not known how this relation will behave, which is thus symbolized by the dotted arrow and a smaller box for the Risks aspect. Once again, the authors of this study expect to find a clearer relation on risks in the field study. The major risks presented in literature are disruptions of current processes, which can ultimately threaten jobs and current operations (Sharma, 2020), employee resistance to change (Bovey & Hede, 2001; Gill, 2002; Lozano, 2012), law compliance, reputational risks, financial exposure (Giannakis & Papadopoulos, 2016) and risk of short-term losses and bankruptcy by binding capital (Amankwah‐Amoah, 2019).

The three factors Environmental Sustainability, Risks, and Financial Performance are finally framed by the factor Risk Management in Figure 1. This indicates the importance of having systems and methods in place to manage the risks associated with sustainability on primarily financial performance. As noticed in the theoretical framework, some risk management strategies that have been presented are the COSO Enterprise

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Risk Management- and Environmental Models (COSO, 2004; COSO, 2018), Krysiak’s (2009) risk management framework, and Schulte and Hallstedt’s (2018) three step process for integrating strategic sustainability into risk management. Some further strategies for risk identification and mitigation are sustainability reporting and disclosure (Kiron & Kruschitz, 2015; Lueg et al., 2019), integration of sustainability into the company core values (Wijethilake & Lama, 2018), and having an engaged top management (Bansal & Roth, 2000; González-Benito & González-Benito, 2008). The authors of this study expect to expand the findings from current literature through their field study by examining these relations and providing a new framework that presents the concepts, relations, and ways of managing risks in more depth and with more confirmed accuracy.

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3. Methodology

This upcoming section of the study will present the methodology. The research philosophy, strategy, and design will be presented and explained why they are believed to be appropriate for this study. Next, the chosen method for sampling, data collection, and analysis will be presented, along with a section explaining ethical considerations and the research quality of the study. The section is concluded with a presentation of the case companies.

3.1 Research philosophy

Research philosophy tells us about our assumptions of the world, reality, and nature of knowledge (Bell & Bryman, 2011). Understanding research philosophy can help clarify the right choice of research method and designs and enable better analyzes of results in a way which can challenge existing assumptions (Easterby-Smith et al., 2018). It is thus relevant to look closer at areas such as epistemology and ontology which will be presented next.

Ontology refers to the philosophical field which studies the nature of reality and existence. One ontological position is relativism, which states that a phenomenon depends on the perspectives from which we observe reality and that observations will be more accurate if the reality is being studied from several perspectives. (Easterby-Smith et al., 2018) The relativistic standpoint is what the authors of this study have used. By acknowledging that the results can vary depending on which perspective an event is studied from, the authors decided to conduct a multiple case study in order to gain data from several different contexts. Furthermore, the choice was made to conduct separate interviews at each company with people having experience working with sustainability issues and financial aspects, respectively. This enabled taking various perspectives into account in order to obtain accurate observations to draw conclusions from. Altogether, taking a relativistic standpoint thus allows for potentially more accurate conclusions to be drawn, as several perspectives are being considered and can contribute with insights from more than one context, which is needed to fulfill the purpose of this study. The relativist standpoint further guided the authors’ choice of epistemology and the choice to conduct a multiple case study.

Epistemology refers to the philosophical theory about knowledge which can help researchers understand how to enquire into the nature of the world (Easterby-Smith et al., 2018). The authors have taken a social

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constructionist standpoint rather than a positivistic one. While positivism circles around the idea that the social world exists externally and that objective measures with large scale samples are needed to measure its properties, social constructionism builds on the idea that it is people who determine reality rather than objective external factors. For social constructionism, it is thus important to gain an understanding about the way people understand their experiences, using samples chosen on a small scale for specific reasons. (Easterby-Smith et al., 2018) For the purpose of this study being to develop knowledge on risk management strategies and the relations between sustainability, risks, and financial performance, the social constructionist standpoint is preferable. The authors of this study acknowledge that in order to draw conclusions on the topic, it is necessary to understand how people who actually work with these concepts would view and work with them. Studying this with a more external and objective point of view, i.e., positivistic, would hinder the authors from getting the in-depth insights needed to examine the relations between the components. Therefore, capturing the experiences of people involved in the topic is preferable. The authors chose to focus on six qualitative interviews with people who have been involved in sustainability work and finance rather than solely observing objective factors such as financial statements and measuring performance. In addition to suiting the purpose of the study, a social constructionist epistemology further goes along with a relativistic ontological standpoint (Easterby-Smith et al., 2018). Thus, the social constructionist stance matches the ontological standpoint of this research.

3.2 Research strategy and design

Based on the adopted research philosophy, this study was conducted using qualitative methods which enables researchers to gather deep insights about the organizational processes by answering the “how”-, “who”-, and “why”-questions (Doz, 2011). Qualitative research is further described as beneficial in theory building as it provides thorough descriptions and information that allow for deep analysis. For this inquiry, the deep insights and new understandings that come from qualitative methods acts as a better foundation compared to the numerically driven results that come from quantitative methods. This holds true especially since the authors aim to gain deeper insights from peoples’ experiences and perceptions of the topic through interviews. This is further in line with the chosen social constructionist stance stating that people determine reality rather than objective factors (Easterby-Smith et al., 2018).

Three types of reasoning for research are the inductive, deductive, and abductive approaches. The inductive approach focuses on systematically generating theory from data. (Dubois & Gadde, 2002) The approach is often used along with qualitative research, and the outcome of the research is the development of theory (Bell & Bryman, 2011). Deductive approaches develop propositions from current theory and focus on

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testing these in real life cases (Dubois & Gadde, 2002). Existing theory guides the research, and the researcher builds their hypothesis which is subjected to empirical scrutiny, based on the existing research in the field (Bell & Bryman, 2011). The abductive approach can be seen as a mix of the inductive and deductive theories. This approach can therefore be useful if the aim of the research is to discover new components such as relationships or variables or to build new concepts rather than confirming existing theories. (Dubois & Gadde, 2002) Abduction is an associated strategy of modern constructionism, and the theoretical frameworks evolve simultaneously with empirical observations as the researcher interprets empirical data and provides rich descriptions that are based on the views of the participants. The approach further goes back and forth between literature and empirical material. (Rashid et al., 2019)

The abductive approach was argued to suit the purpose of this study as the researchers aim to identify risk management strategies and examine the relations between sustainability, risks, and financial performance and to build a new model based on the findings. The approach is further suitable as it goes in line with the constructionist stance chosen, and since the researchers have gone back and forth between literature and the field study. Although the research has been partly driven by existing literature, with a thorough review being conducted on the existing research and having current studies guide the research, there has still not been found research that fully connects the three components of sustainability, risks, and financial performance in the way the researchers of this study aim to do. Therefore, the deductive approach which develops theory from current theory and tests these in real life cases was not believed to be in line with this study, as this paper aims to discover new components and relationships, and ultimately build a new framework. Hence, the abductive approach was argued to be best suited for this paper.

As previously mentioned, the authors ontological- and epistemological standpoint, as well as the purpose of this study, drove the decision to conduct a multiple case study as the research strategy. Researchers using case studies go in depth to analyze one or a few individuals, organizations, or events (Easterby-Smith et al., 2018). Siggelkow (2007) argues that case studies are of value when the researchers aim to inspire new ideas, demonstrate the importance of specific research questions, fill existing research gaps or to illustrate abstract concepts. This is thus believed to be in line with the purpose of this study. While single case studies are useful when the researcher wants to go in depth to examine a single event or company, multiple case studies are beneficial when it is appropriate to compare several cases. The decision was made to analyze three independent organizations in order to gain deep insights from several points of views which enable the researchers to get enough data to fulfill the purpose of the study. This further enabled the authors to build a model from the data which can be applied to other contexts as the model considers perspectives from more than a single case.

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Stake (2006) categorized qualitative case studies into instrumental and expressive studies. Instrumental ones are those which study specific cases in order to develop general principles, while expressive ones focus on investigating cases which have specific features, meaning that the results may not be generalized to other contexts. This study is argued to be mostly instrumental as three independent organizations were studied, thus enabling the findings to be somewhat generalized and applicable to other scenarios.

To summarize, for the purpose of this paper the authors took a relativistic- and social constructionist standpoint along with an abductive approach and finally an instrumental multiple-case study as the chosen strategy.

3.3 Case selection

The sampling process was conducted using the purposive sampling method. In purposive sampling, the researchers have predefined criteria for what type of people should be part of the study, and then select respondents based on the fit to those specific criteria (Easterby-Smith et al., 2018). For this study, the selection was based on the following requirements: Swedish manufacturing company of large size that is engaged in environmental sustainability. Two people were to be interviewed at each company, chosen based on the requirement that they are working with either sustainability and/or financial aspects.

The reasoning behind these criteria was that the authors wanted to talk to people who had experience of working with sustainability and financial performance, so that they could discuss the company’s initiatives and potential implications and risks associated with such work. Manufacturing companies were selected because of the environmental impact that is related to the production process, such as energy, waste, and different materials. Large companies were selected because of the view that they are usually held accountable for environmental impacts (Küpers, 2011). By selecting companies from different industries, the aim was thereby to gain a nuanced view and further make conclusions from this study applicable to manufacturing firms in general. For the researchers to gain a nuanced view of the selected companies, the choice was also made to conduct interviews with two people from the same company.

3.4 Data collection

To answer the research questions, qualitative interviews were conducted with people working within the field of finance and sustainability. Interviews were argued to be suitable for the purpose of this study as they enable the researchers to access information in the relevant context and gain knowledge about a

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phenomenon which could otherwise be difficult to observe. Interviews are furthermore deemed an appropriate method when for example the step-by-step logic of a situation is unclear, the aim is to understand the respondents’ “world” and when it is necessary to understand the basis of the respondents’ opinions and beliefs about the matter in question. (Easterby-Smith et al., 2018) As this aligns with the aim to gain deep knowledge to answer the research questions, the decision was made to conduct six individual semi-structured interviews. Semi-structured interviews allow the researcher to vary the sequence of questions and ask somewhat general questions which allows for adaptation during the interview and further follow-up questions in response to the replies given. (Bell & Bryman, 2011) Furthermore, semi-structured interviews enable the adjustment of interviews based on insights given by the respondents. This enables the opportunity to be flexible with follow-up questions in case the respondent touches upon topics outside the scope of the prepared questions yet relevant information for the study. However, a risk that the authors identified with using semi-structured interviews is that the follow-up questions can guide the respondents to topics which are less relevant. Therefore, the authors prepared questions which guided the conversations and kept the dialogue on track. The questions that the semi-structured interviews were based on can be found in Appendix 1.

To complement the semi-structured interviews and primary data gathered, secondary data such as information from company reports and other information obtained from the companies was analyzed. This secondary data was used in, for example, the case descriptions for the companies. Collecting secondary data further enabled a more thorough understanding of the context of the cases.

3.5 Data analysis

The chosen method for the analysis of the collected data was grounded analysis. Grounded analysis is a common approach for qualitative data, which contributes to knowledge in a specific field by linking key variables, or theoretical codes, into a holistic theory. While other analysis methods test and elaborate existing theories, grounded analysis builds theories from categories identified in the data. (Easterby-Smith et al., 2018) The method was argued to fit the purpose of this paper in several ways. As the researchers aimed to build a new framework that examines the underexplored relation between sustainability, risks, and financial performance, it was believed to be appropriate to use an analysis that aims to link variables into a new holistic theory. This furthermore enabled the researchers to fulfill their purpose and answer the research questions. Once again, since the factors being explored had not been properly studied, the grounded analysis was deemed suitable since the method does not focus on testing existing theories.

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Although grounded theory traditionally has been seen as postpositivist in regard to ontology, researchers have developed grounded theory to fit with a variety of ontological positions, for example constructionism (Mills et al., 2006), which therefore is believed to suit the standpoint of this study. Grounded analysis has furthermore been argued to fit the epistemological stance of relativism (Lomborg & Kirkevold, 2003), which is thus in line with the authors’ relativistic standpoint.

Grounded analysis follows seven general steps. These are familiarization, reflection, open coding, conceptualization, focused re-coding, linking and re-evaluation. (Easterby-Smith et al., 2018) These seven steps guided the authors’ analysis in this study. After the six qualitative interviews had been conducted and transcribed, the authors started with familiarization and reflection of the data by going through all findings. Coding is argued to be an important part of grounded analysis, which allows for structure and identification of links and patterns among large and overwhelming data (Easterby-Smith et al., 2018). The authors went through the answers from the respondents and identified words or short phrases, i.e., codes, which summarized the meaning of the data in question. An extraction of the coding can be seen in Appendix 3. The authors then conceptualized the codes, i.e., compared and analyzed the codes to identify patterns and organized these into different categories. Along this step, the authors wrote memos with notes and descriptions for the codes which helped structure the internal process and identify more concepts. The codes and categories were then thoroughly examined and re-coded into themes, which allowed for more in-depth analysis of the most important aspects. At this stage, patterns became more visible, linking among the concepts were conducted and a draft of the final framework was made, and suggested results were developed. This was then presented to peers and was re-evaluated by the authors several times in order to identify potential flaws or areas of improvements.

3.6 Ethical considerations

The consideration of ethical aspects has been a high priority by the authors of this study. Poorly managed research ethics could cause harm to participants for example as a result of rules of confidentiality being broken, or economic harm to the company (Easterby-Smith et al., 2018). Bell and Bryman (2007) present 11 main areas of ethical principles in business research, which have been of great focus and acted as a guideline during the work with this paper. The 11 principles presented by Bell and Bryman (2007) are the following:

1. Ensuring no harm caused to participants 2. Respecting participants’ dignity

The Unpredictable Financial Environment of Sustainability : A Multiple Case Study Examining Risks Associated with Environmental Sustainability and Its Perceived Impact on Financial Performance