Impact of U.S. derivatives accounting standard on investment efficiency

The purpose of this research is to examine the impact of the U.S. accounting standard, SFAS 133, on non-financial users of derivatives in terms of their investment. The standard requires firms to recognize and report the use of financial derivatives in their financial statements; it stipulates certain conditions under which firms may use hedge accounting. The standard became effective for firms with fiscal years beginning after June 15, 2000. A limited number of studies have examined the impact of SFAS 133. However, I believe that mine is the first paper to examine the impact in terms of investment efficiency.

I manually obtain data from the 10-K reports on the use of derivatives for a sample of 421 non-financial firms taken from the S&P 500 and Fortune 500 lists. I classify firms as users of exclusively one of the three types of derivatives: interest rate, foreign exchange rate, or commodity price. Financial data are obtained from Compustat. I measure exposure by the coefficient of the price risk variable in a market model. I measure investment efficiency by the reduction in the sensitivity of capital expense to internally generated cash flows.

In general, I find, in the post-SFAS 133 period, that exposures to different price risks were reduced and that investment efficiency improved for firms with relatively high exposures.  I interpret the latter result as indicating that the new accounting standard had a greater impact on firms with relatively more exposure. Within these general results, I find that there are some differences among the different types of derivatives users.