This article theoretically and empirically shows that a net zero commitment is a double-edged sword from a firm’s cost of equity perspective. To mitigate the irreversible impact of global warming, increasing numbers of firms have declared net zero commitments. Our theoretical model elucidates the relationship between a firm’s transition ambition, transition readiness, and enterprise value. Empirically, by estimating the carbon risk premium across 1,100 listed firms that have declared a net zero commitment by end-December 2022 worldwide, we find the latter may increase or decrease a firm’s carbon risk premium depending on its transition readiness. The empirical results are in line with our theory and cannot solely be explained by the green preference of investors nor the discounted transition credibility of high-emitting firms. Besides, we show that institutional investors effectively channel carbon risk into the equity market by divesting from high-emitting firms that have declared net zero commitment.
