Exploring the Relationship Between ESG Activities and Firm Performance: The Carrot and Stick Approach

This study uses stakeholder theory to investigate the impact of firms' ESG activities on performance, paying particular attention to the moderating roles of executive ESG compensation (the ``carrot'') and external ESG audits (the ``stick''). Utilizing Thomson Reuters ESG data from 1,523 US firms over six years (2017–2022) and applying fixed-effects models, the analysis reveals that environmental and social activities are positively associated with firm performance. In contrast, governance activities are negatively related to financial performance but positively related to non-financial outcomes. Furthermore, executive ESG compensation and external audits positively moderate the relationship between ESG activities and firm performance. Executive compensation serves as a filtering mechanism that promotes performance-oriented ESG initiatives, while external audits enhance credibility and foster stakeholder trust through independent verification. These findings provide empirical support for the assertion of stakeholder theory that ESG activities can generate value for multiple stakeholder groups simultaneously.