Corporate Hedging, Financial Distress, and Product Market Competition

Abstract:     
The paper investigates the relationship between corporate hedging and product market competition. Using a broad sample of multiple commodity-inputs industries over the period of 1994-2008, the paper examines whether an unfavorable commodity shock has a long term effect on unhedged firms. I find that unhedged firms which are ex ante financially constrained lose market share and experience a decrease in profitability during shocks. The effects are persistent up to five years and robust to performance trend and potential endogeneity. I find that firms with financial advantages – unconstrained hedged firms – tend to increase advertising expenditures and decrease price-cost-margins during negative commodity shocks, indicating that the market share loss of constrained unhedged firms is due to increased competition in the product market. Furthermore, I find that constrained unhedged firms are more likely to exit the market than their hedged rivals and the effects are stronger in concentrated industries and industries with higher leverage dispersion.

Number of Pages in PDF File: 57

Keywords: Corporate Risk Management, Commodity Hedging, Financial Distress, Product Market Competition

JEL Classification: G32, L11

working papers series