Derivative usage and ﬁrm value: The inﬂuence of agency costs and
, Andy Naranjo
University of Tennessee, 424 Stokely Management Center, Department of Finance, Knoxville, TN 37996, United States
University of Florida, Warrington College of Business, Hough Graduate School of Business, Department of Finance, Insurance, and Real Estate, P.O. Box 117168,
Gainesville, FL 32611-7168, United States
article info abstract
Received 28 July 2008
Received in revised form 26 August 2010
Accepted 2 September 2010
Available online 7 September 2010
Using derivative usage data on over 1746 firms headquartered in the U.S. during the 1991
through 2000 time period, we find that firms with greater agency and monitoring problems
(i.e., firms that are less transparent, face greater agency costs, have weaker corporate
governance, larger information asymmetry problems, and overall poorer monitoring) exhibit a
negative association between Tobin's Q and derivative usage. The negative valuation effect is
also economically significant with an impact of -8.4% on Tobin's Q from a one standard deviation
change in the firm monitoring index. The results are robust to alternative specifications, time
varying estimates, econometric procedures that correct for potential clustering of errors,
endogeneity problems, and sample selection biases among other robustness checks discussed in
the paper. We conclude that derivative usage has a negative impact on firm value in firms with
greater agency and monitoring problems.
© 2010 Elsevier B.V. All rights reserved.
The inﬂuence of derivative usage on ﬁrm value has received substantial interest among academic researchers, the ﬁnancial
press, regulators, and other ﬁnancial market participants. While approximately 50% of U.S. non-ﬁnancial ﬁrms use derivatives and
their use continues to grow, the empirical evidence on the inﬂuence of derivative usage on ﬁrm value is mixed. For instance,
Allayannis and Weston (2001), Adam and Fernando (2006), Carter et al. (2006), and Berrospide et al. (2008) among others ﬁnd a
positive relation between derivative usage and ﬁrm value. However, Jin and Jorion (2006), Nain (2006), and Lookman (2004) ﬁnd
either no relation or only a conditional positive or negative relation between derivative usage and ﬁrm value. While these mixed
valuation results are puzzling, they can be explained in part by management's use of derivatives to address market imperfections
versus management's selective use of derivatives for speculation and self-interests.
The link between derivative usage and ﬁrm value depends on the extent to which their use effectively addresses market
imperfections such as bankruptcy costs, ﬁnancing constraints, information asymmetries, and taxes (e.g., Mello and Parsons, 2000;
Froot et al., 1993; Stulz, 1996; DeMarzo and Dufﬁe, 1991; Bessembinder, 1991; Stulz, 1990; Smith and Stulz, 1985; Myers, 1977),
Journal of Corporate Finance 16 (2010) 719–735
⁎ Corresponding author. Tel.: + 1 865 974 1722; fax: +1 865 974 1716.
E-mail addresses: firstname.lastname@example.org (L. Fauver), email@example.comﬂ.edu (A. Naranjo).
Tel.: + 1 352 392 3781; fax: +1 352 392 0301.
0929-1199/$ – see front matter © 2010 Elsevier B.V. All rights reserved.
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