Is Capital Structure Irrelevant with ESG Investors?

Peter Feldhütter and Lasse Heje Pedersen

The Review of Financial Studies, 2025, vol. 38, issue 8, 2362-2385

Abstract: This paper examines whether capital structure is irrelevant for enterprise value and investment when investors care about environmental, social, and governance issues, which we refer to as “ESG-Modigliani-Miller” (ESG-MM). Theoretically, we show that ESG-MM holds with linear pricing and additive ESG. ESG-MM means that issuing low-yielding green bonds does not lower the overall cost of capital because it makes the issuer’s other securities browner. Hence, a firm’s incentive to make a green investment does not depend on its financing choice. We provide suggestive evidence of failure of ESG-MM, implying that firms and governments can exploit inconsistent ESG attribution or segmented markets.

Keywords: E22; G12; G32; G4; H23; Q56 (search for similar items in EconPapers)
Date: 2025
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