The Role of Environmental, Social, and Governance Rating on Corporate Debt Structure
45 Pages Posted: 22 Jul 2021 Last revised: 28 Sep 2021
Date Written: July 19, 2021
This paper examines the impact of having an Environmental, Social, and Governance (ESG) rating on a firm’s debt structure, i.e. how firms change their leverage ratios and debt components when becoming ESG rated. Targeted market and book leverage ratios are reduced when firms become ESG rated. We show that the provision of ESG rating mitigates information asymmetry. Current leverage ratios are not altered significantly for ESG rated firms but these firms redistribute their financing sources from public debt (bonds debt) to private debt (bank loans). This substitution effect is mainly driven by environmental and social factors and is more pronounced for firms with high financial pressure, low growth opportunities and specialized assets. Debt restructuring remains valid under various robustness and endogeneity tests. These results are consistent with the trade-off and pecking order theories of capital structure.
Keywords: ESG rating, debt structure, public and private debt, leverage ratios, information asymmetry
JEL Classification: G24, G31, G32, Q56
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