ATJ Asian Tax Journal

Asian Tax Journal

Print ISSN 1738-3323 Online ISSN 2733-9270

Which Becomes more Stabilized by Firm’s Risk Hedging between Accounting Income and Cash Flow?

  • Rho, Joon Hwa School of Business Administration, Chungnam National University

Asian Tax Journal Vol. 18 No. 1 (2017), pp. 201-235

Abstract

Research shows that financial derivatives reduce variability of operating cash flows (OCFs) and net incomes(NIs). However, some other research reports the opposite results, therefore calling for more empirical research on the relationship between cash flow variability and investments in financial derivatives. The aim of this paper is to investigate whether the purpose of the hedging strategy using financial derivatives is to reduce the variability of operating cash flows or that of net income by using a sample of non－financial and non－insurance firms listed on KOSPI or KOSDAQ markets. Financial data for this paper come form the KIS－VALUE database of Korea Information Service and data on financial derivatives come from the footnotes to annual reports posted on the TS－2000 site of Korea Association of Public Corporations. Results show that futures investments increase OCF variability but reduce net income variability significantly. Meanwhile, forwards investments do not seem to affect the variability of both OCFs and NIs. This shows that because forwards contracts are between two trusting parties they reduce the breach risk and rarely influence firms' OCFs and NIs. Results also show that options investments do not influence either the OCF variability or the NI variability significantly. Meanwhile, swaps investments do not seem to significantly affect the variability of OCFs, but increase the NI variability. In summary, each different type of financial derivatives has different impact on the variability of OCF or NI numbers. This study is meaningful in that it investigates whether the hedging strategy using financial derivatives affects the variability of operating cash flows and/or that of net incomes. Previous research reports the impact of derivatives investments without considering different impact of different types of derivatives on information needs of various user groups. The findings of this study has implications both for academia and stock markets.

Keywords

  • Derivatives
  • Hedge
  • Earnings volatility
  • Cash flow volatility

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