Essays on the Role of Firm Sustainability in Leverage and Debt Structure

Abstract

Integrating Environmental, Social, and Governance (ESG) practices into decision-making benefits firms by enabling them to effectively manage risks, generate sustainable value, comply with regulations, and meet the growing demands of investors. Beyond these advantages, a critical question arises: Do firms' sustainability practices also influence their financing decisions, particularly their choices regarding leverage and debt structure?

This essay explores this overarching question through three standalone but closely interconnected papers. In the first paper (Chapter 2), I examine how firm-level ESG rating affects leverage when firms experience uncertain external economic conditions. The results show that ESG-rated firms tend to maintain lower leverage ratios and exhibit a smoother speed of leverage adjustment compared to non-rated firms under high economic policy uncertainty, suggesting that ESG serves as a robust mechanism tool for mitigating the adverse effects of economic policy uncertainty.

In the second paper (Chapter 3), I focus on the pure impact of ESG on firms' leverage by examining the debt structure in greater detail. The findings indicate that ESG-rated firms tend to have lower optimal leverage ratios and reduced information asymmetry. Notably, these ESG-rated firms redistribute their financing sources from bonds to bank loans. This redistribution
is driven by ESG-rated firms' efforts to avoid debt overhang and underinvestment issues, as well as the valuable information that ESG ratings provide to lenders, which enhances access to internal financing sources like bank loans rather than issuing debt.

In the third paper (Chapter 4), I explore an emerging dimension of ESG: biodiversity. By analyzing firms' disclosure of biodiversity in their annual reports, I investigate its relationship with firms' debt structure. The results indicate that firms disclosing biodiversity information tend to rely more on bond debt and less on bank loans in comparison to those without biodiversity disclosure, indicating a switch from bank loans to bonds. This effect is more pronounced for firms in a weaker financing position, characterized by high financial pressure, low growth opportunities, and smaller size.

Overall, this essay contributes to the understanding of the role of ESG in corporate financing decisions, highlighting its significant impact on leverage and debt structure across economic policy uncertainty and specific sustainability dimensions, such as biodiversity.

Date of Award	11 Sept 2024
Original language	English
Awarding Institution	University of Bath
Supervisor	Nikolaos Sakkas (Supervisor), Winifred Huang (Supervisor) & Stylianos Asimakopoulos (Supervisor)