Is Bigger Better? Firm Size Implications of Corporate Governance Risk Management Over Financial Derivatives

Purpose –The extant literature is divided regarding the impacts of firm size on financial derivatives and the empirical studies provide conflicting results and offer opposing viewpoints. There is strong evidence to suggest that firm characteristics differ between larger and smaller sized firms and that derivative users are generally larger firms. Firm size may also influence the risk management behavior of corporate governance and reveal some biases and personal agendas. However, this area is largely unexplored and warrants investigation. This is the first study that examines whether corporate governance risk management over financial derivatives is sensitive to firm size considerations. Design/methodology/approach – The authors employ Maddala’s simultaneous equations methodology to examine the firm’s derivatives usage simultaneously with debt borrowings, as both form basis of the capital structure decisions of the firm. Further we split the data into large and small size firms to examine the size effects of corporate governance risk behavior, departing from the method employed in the derivatives literature. Findings – The authors provide empirical evidence to suggest that corporate governance is consistent in their risk management of financial derivatives use and that they are not influenced by any firm size considerations. Research limitations/implications – Additional examination of the risk and value effects on firm performance based on firm-size differences would provide additional insights into the hedging effectiveness of corporate governance in respect to financial derivatives. Practical implications – The findings provide assurance that corporate governance is not influenced by firm size with respect to financial derivatives. Therefore, governance regulations and accounting standards requirements do not need to provide any restrictions/modifications on the size of firms employing financial derivatives instruments. Originality/Value – This is the first study to examine the effects of firm size on corporate governance risk management over financial derivatives. The area is unexplored and has far reaching consequences. If firm size has an impact on corporate governance, then regulators would need to develop varying controls based on the firm size to cater to differences in risk management by corporate governance. As it is corporate governance mechanisms do not make any distinctions based on firm size, and the study supports the need for one set of corporate governance controls across all size firms.