Toxic trade-offs: How peer-adjusted abnormal chemical emissions impact return on equity

Our variance decomposition of corporate environmental performance shows that production and non-production factors account for equal parts of the variance in non-greenhouse gas toxicity-adjusted chemical emissions (TACE). Variance differences suggest that emission responsibility is delegated down to production managers in U.S. firms vis-á-vis up to industry associations in European firms. We derive the novel measure of peer-adjusted abnormal TACE from the variance decomposition to quantify corporate excess emissions. A one-standard-deviation increase in peer-adjusted abnormal TACE reduces return on equity (ROE) by 2.6 to 2.9 percentage points. A difference-in-differences analysis of the staggered enactment of environmental detoxification regulations supports a causal interpretation. Several moderation tests indicate that environmental policy uncertainty, resource scarcity, and ESG commitments explain cross-sectional heterogeneity in the environmental-financial performance relation. Our results are consistent with the conjecture that firms with excessive TACE experience diminished ROE due to reduced legitimacy, increased stakeholder pressures, and resulting operational and financing frictions.