How does digital transformation improve firm performance? The moderating role of ESG performance and the mediating role of innovation capability in Saudi Arabia (2020-2025)

Abstract

This study aims to examine how digital transformation (DT) improves the performance of Saudi listed firms, whether innovation capability (IC) mediates this relationship, and whether environmental, social and governance (ESG) performance moderates it, within the context of Saudi Vision 2030. Drawing on the resource-based view, dynamic capabilities theory and stakeholder theory, the study analyses a balanced panel of 120 non-financial firms listed on the Saudi Exchange (Tadawul) over 2020–2025. The two-step system generalised method of moments (GMM) estimator is applied to address endogeneity, dynamic persistence and unobserved heterogeneity. Mediation is assessed through the Sobel test and bootstrapped indirect effects, and moderation through interaction terms. DT exerts a positive and significant effect on firm performance. IC fully mediates the DT–performance relationship, confirming that DT enhances performance by strengthening a firm’s capacity to innovate. ESG performance positively moderates the DT–performance relationship, with the strengthening effect most pronounced for the market-based performance measure (Tobin’s Q). Results are robust to an alternative performance proxy, alternative estimators and endogeneity checks. The index-based measurement of DT and IC, although validated against annual-report content, may not capture every dimension of digitalisation. The single-country focus enhances contextual depth but may limit generalisability to other Gulf Cooperation Council economies. Managers should treat DT not as an end in itself but as an enabler of innovation capability, and should pair digital investment with credible ESG commitments to convert digital resources into superior and sustainable performance. The study provides among the first firm-level panel evidence, from an emerging oil-driven economy pursuing Vision 2030, of a mediated-moderation mechanism linking DT, IC, ESG and performance.