Does Centralisation of FX Derivative Usage Impact Firm Value?

Date01 March 2015
Published date01 March 2015
Does Centralisation of FX Derivative
Usage Impact Firm Value?
Håkan Jankensgård
Department of Business Administration, Lund University, P.O. Box 7080, 220 07, Lund, Sweden
Previous research has shown that rms identied as derivative users tend to be
valued at a premium relative to nonusers. In this paper I develop the hypothesis
that the derivative premiumis higher in rms with centralised FX exposure
management, compared to a decentralised approach in which subsidiaries retain
bank contacts and/or decisionmaking authority. This study benets from unique
survey data on the FX management practices and derivative usage of Swedish listed
rms. The data supports the centralisationhypothesis. Firms with a centralised
approach have a statistically signicant derivative premium of around 15%,
whereas there is no premium for decentralised rms.
Keywords: centralisation, risk management, currency risk, derivative, hedging
JEL classification: G30, G32
‘…many of the Companys subsidiaries are exposed to currency riskTo manage such
currency risk, the Companys policy requires its subsidiaries to hedge their foreign currency
exposure from binding sales…’
ABB, annual report 2009
Decisions regarding the hedging of operating cash ow exposures are made by the
individual Business Areas in collaboration with Group Treasury.
Trelleborg, annual report 2009
The author gratefully acknowledges several valuable comments and suggestions by an
anonymous referee. I furthermore wish to thank John Doukas (the editor), Raj Aggarwal,
Tom Aabo, Anders Vilhelmsson, Lars Oxelheim, Jens Forssbæck, Fredrik N.G. Andersson,
and Anders Löflund for helpful comments. I thank the Jan Wallander and Tom Hedelius
foundation and the Tore Browaldh foundation for financial support. Any remaining errors
are the responsibility of the author alone.
European Financial Management, Vol. 21, No. 2, 2015, 309332
doi: 10.1111/j.1468-036X.2013.12014.x
© 2013 John Wiley & Sons Ltd
Currency risks in the subsidiariesnet exposures are hedged according to the policy of each
individual subsidiary.
Ratos, annual report 2009
1. Introduction
Conventional wisdom holds that there are signicant benets from centralising foreign
exchange (FX) exposure management. By centralising a rm can avoid duplicating costly
risk management activities, achieve lower transaction costs, and concentrate its nancial
competence. Yet empirical surveys (Oxelheim, 1984; PricewaterhouseCoopers, 1995;
Edelshain, 1997; Bodnar et al., 1998, 2003; Belk, 2002) suggest that in practice
decentralised exposure management, i.e. FX derivative usage by business units other than
central Treasury, occurs on a nontrivial scale.
This paper is the rst to analyse if the socalled derivative premiumis conditional on a
centralised approach to FX exposure management, as opposed to a decentralised approach
in which business units retain bank contacts and/or decisionmaking authority. The
derivative premium refers to the nding that rms identied as derivative users tend to be
valued at a premium relative to nonusers, typically in the range of 316% (Allayannis and
Weston, 2001; Carter et al., 2006; Kim et al., 2006; Clark and Judge, 2009; Allayannis
et al., 2011).
Using unique surveydata on the FX derivative practices of Swedish listed rms, the
estimated premium associated with derivative usage for rms with a centralised approach
is around 15% and statistically signicant at the 10%level. Firms with decentralised FX
exposure management, on the other hand, are not associated with a derivative premium.
This suggests that FX derivative usage is valuable to a rm only if it is centralised. We
thus have evidence of a centralisation premium, which is robust across different model
specications and different denitions of decentralisation.
These ndings are consistent with the received wisdom that decentralised exposure
management is associated with a number of coordination problems and cost inefciencies
(the efciency explanation). Another possibility is that a decentralised approach suffers
from higher agency cost of risk management, i.e. an excessive use of derivatives that cater
primarily to the demand of riskaverse managers (the agency explanation). A third
possible explanation is that rms with decentralised FX exposure management have more
decentralised decisionmaking generally, and that derivative usage is less valuable given
such a business model (the business model explanation). In particular, subsidiaries in
decentralised companies are more likely to have relatively independent capital structures
and bankruptcy risk. Derivative usage could fail to add value in such rms because
In this literature this nding is commonly referred to as the hedging premium. When, as in
this paper, the data does not allow us to distinguish between the hedging and speculative
motives for derivative usage it is more appropriate to use the term derivative premium. Not
all papers have found a derivative premium. Jin and Jorion (2006), for example, nd no such
evidence for a sample of US oil and gas rms.
© 2013 John Wiley & Sons Ltd
310 Håkan Jankensgård

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