Study On Risk Management And Firm Value In Energy Market

According to classic Modigliani and Miller(M&M) theorem with perfect capital markets, any risk management including hedging would not add to the firm value. This is true is a world of no taxes, no information asymmetries, or transaction costs, because shareholders' private leverage would undo the benefit brought by any risk management strategies. In a real imperfections and inefficient capital market, however, M&M theorem may not hold because hedging could lower the volatility of firm's cash flue.From this point of view, we analysis whether hedging could affect firm's value, if it is, how could it be. We presented hedging incentives such as tax incentives, financial distress, underinvestment problem, and transaction costs and so on, all of the incentives could maintain and increase the earning of firm overtime, thus, hedging would add value the firm.To test our assumption, we download 158 firms per year annual report from NYMEX and firms' website. Those annual data are from 2002 and 2006 with firms in the business of crud oil and natural gas. All those firms are American list firms so that we can calculate their hedging variables and firm value.What we want to test is whether the hedging companies have a higher Tobin's Q, that is, is hedging adding value to a firm? What we find is in accordance with our assumption. That means risk management is not only the business of one nation, but also should be the aim of a company.