The effect of environmental, social, and governance disclosure and real earning management on the cost of financing

Abstract

This study identifies if sustainable development practices measured through ESG information disclosure are related to stakeholder confidence, leading to a lower cost of debt and equity financing. We also investigate the possible moderating role of real earnings management. We apply a fixed effects panel data analysis to 1659 firm-year observations of 177 European companies from 2010 to 2019. The results show that investors value ESG disclosure negatively and increase the cost of equity, whereas lenders value it positively and reduce the cost of debt. In addition, when the moderating effect of real earnings management is introduced, the effect of ESG disclosure on the cost of debt decreases, and the effect of ESG disclosure on the cost of equity is reinforced by increasing it. In the presence of real earnings management, investors and lenders seem to think companies use ESG disclosure to legitimise their practices or mislead financing providers.