DP15885 Corporate resiliency and the choice between financial and operational hedging

• Viral Acharya Heitor Almeida Yakov Amihud Ping Liu
4 Mar 2021

We investigate how firms manage financial default risk (on debt) and operational default
risk (on delivery obligations). Financially constrained firms reduce operational
hedging through inventory and supply chain in favor of cash holdings. Our model predicts
that firms’ markup increases with financial default risk as they cut operational
hedging costs. Empirical analysis confirms this prediction and shows that the markupcredit
risk relationship strengthens during adverse aggregate shocks, particularly for
firms exposed to lending disruptions. Market power alone cannot explain this relationship,
which reflects firms’ strategic adjustments in operational hedging practices.