Carbon reduction commitment, carbon emission intensity, and financial default risk: An empirical analysis of European firms

Abstract

This study uses publicly listed companies headquartered in Europe (including the European Union and the United Kingdom) as a sample of 3299 observations to explore the relationship between corporate carbon reduction commitments, carbon emissions intensity, and financial default risk. Carbon reduction commitment is one of the climate transition risks (CTRs) faced by companies. This study uses a dummy variable representing whether a company has set a carbon reduction target percentage, based on data from the Refinitiv Eikon database, as a proxy for carbon reduction commitment. The data covers the period from 2016 to 2022. The study employs Altman's Z-score, Altman's modified Z’’-score (ZZ model), and Zmijewski's ZM-score models, with variable transformations to measure financial default risk. The empirical results show that higher carbon emissions intensity in Scope 1 and Scope 2 correlates with higher financial default risk. Companies with carbon reduction commitments have lower financial default risk. Further analysis using the interaction term between carbon emissions intensity and carbon reduction commitment reveals that for companies with higher carbon emissions intensity in Scope 1 and Scope 2, carbon reduction commitments have a moderating effect, reducing their financial default risk. This suggests that companies with targets to reduce greenhouse gas emissions can better address CTRs and positively benefit their operations. This study provides empirical evidence on the impact of CTRs on corporate operations.