Beyond Modigliani-Miller: Capability Constraints and Capital Structure under Climate Risk

Physical climate risk is an increasingly important constraint on firm performance in developing economies, yet its interaction with capital structure remains poorly understood. This study examines whether leverage and financing composition affect firms’ resilience to climate shocks by integrating firm-level financial data, probabilistic climate exposure estimates, and adaptive-capability indicators for 75,024 firms across 41 countries. Using fixed-effects regressions and counterfactual simulations, the analysis shows that leverage is consistently associated with lower firm value but higher accounting returns, while climate exposure does not exert a significant direct effect on performance once firm characteristics are controlled for. Financing mix does not independently moderate climate impacts, whereas financial access and capability play central roles in shaping resilience. The findings support a capability-contingent theory of capital structure in which financing decisions matter primarily when firms differ in their ability to translate financial resources into adaptive responses, providing policy guidance for designing capability-enhancing adaptation finance and extending capital structure theory to climate-risk environments.