On the Determinants of Derivative Usage by Large Indian Non-financial Firms

Abstract

Corporations in India, as in the rest of the world, use hedges to protect themselves against a quartet of exposures: swings in interest rates, commodity prices, foreign exchange rates and equity values. In the wake of the global financial crisis and significant losses on derivatives transactions announced by Indian companies recently, a study on the determinants of derivative usage by these companies is especially significant. This paper examines the factors which determine the usage of derivatives by large Indian non-financial companies. It is found that a total of 121 large Indian non-financial firms use derivatives. Taking 173 data points (49 companies in 2007, 68 companies in 2008, 56 companies in 2009) which have disclosed the derivative data in their annual reports, this study uses cross sectional panel data for three years from 2007 to 2009 and applies a multiple regression model. For this purpose, the firm-specific characteristics such as financial distress cost, underinvestment cost, multinationality, economies of scale, firm size and agency variables are regressed against the notional amount of derivatives reported for hedging activities. It is found that size is the major determinant of the derivative usage by large Indian non-financial companies.