Aabo 2006 - European Financial Management, Vol. 12, No. 4,...

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European Financial Management , Vol. 12, No. 4, 2006, 633–649 The Importance of Corporate Foreign Debt in Managing Exchange Rate Exposures in Non-Financial Companies Tom Aabo Aarhus School of Business, Fuglesang all´e 4, 8210 Aarhus V, Denmark. e-mail: taa@asb.dk Abstract This empirical study of the exchange rate exposure management of Danish non-financial firms listed on the Copenhagen Stock Exchange shows that debt denominated in foreign currency (‘foreign debt’) is a very important alternative to the use of currency derivatives. The results show that the relative importance of foreign debt is positively related to (1) the extent of foreign subsidiaries, (2) the relative value of assets in place, and (3) the debt ratio. The pivotal role of time horizon is emphasised. These findings are important to firms in other countries with open economies. Keywords: exchange rate exposure management ; financial hedging ; foreign debt JEL classification: F 23, F 31, G 15 1. Introduction Empirical studies on the management of exchange rate exposure in non-financial firms suggest that debt denominated in foreign currency (‘foreign debt’) is a substitute for currency derivatives and that foreign debt is used for hedging purposes. Using a sample of the long-term borrowing of 44 listed Finnish corporations between 1985 and 1991, Keloharju and Niskanen (2001) find that firms raise foreign debt in order to hedge their foreign exchange exposures (positive correlation between foreign debt and export share) and in order to speculate (borrow when foreign interest rates are low). Elliott et al . (2003) analyse a sample of 88 US firms for the period of 1994–97. They find that foreign debt is used for hedging purposes (positive correlation between foreign debt and exposure as measured by the foreign sales ratio) and that foreign debt substitutes for the use of derivatives in reducing currency risk (negative correlation for a given exposure I would like to thank an anonymous referee, John Doukas (the Editor), William B. Elliott, Christos Pantzalis, Betty J. Simkins, participants at the Global Finance Conference 2003, and participants at the European Financial Management Association 2005 Annual Conference for helpful comments and suggestions. Research assistance provided by Steen Michael Knudsen. C ° 2006 The Author Journal compilation C ° 2006 Blackwell Publishing Ltd, 9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA 02148, USA.
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634 Tom Aabo between foreign debt and the use of derivatives). Kedia and Mozumdar (2003) examine the determinants of public debt issuance in ten major currencies by large US firms. They find strong evidence that firms issue foreign currency debt in order to hedge exchange rate exposures. The aim of this paper is to address the relative importance of foreign debt vis-`a-vis currency derivatives.
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Aabo 2006 - European Financial Management, Vol. 12, No. 4,...

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