Derivatives, Corporate Hedging, and Shareholder Wealth: Modigliani-Miller Forty Years Later
Kimberly D. Krawiec | 1998 U. Ill. L. Rev.
In this article, Professor Krawiec evaluates the relationship between derivatives hedging and shareholder wealth through an analysis of both the legal and financial academic literature. She contends that legal commentators who argue that corporate derivatives use requires a broad rethinking of traditional corporate law norms are mistaken. She further contends that if adopted by future courts judging management decisions regarding corporate hedging, such arguments raise a severe danger of undermining the business judgment rule as applied to management hedging decisions. She notes that much of the legal evaluation of derivatives hedging has focused on pure financial benefit to the corporate entity, without considering the costs and benefits to shareholders. Professor Krawiec attempts to remedy that weakness by identifying the various benefits that may accrue to shareholders from firm-level risk reduction through derivatives hedging. She suggests profiles of companies most likely to generate shareholder benefits through derivatives hedging. She then analyzes the empirical evidence of actual firm hedging practices to determine whether this behavior fits the company profiles previously developed. Professor Krawiec discusses the implications of her analysis for corporate decisionmaking and for legal policy. She concludes that firm-level risk reduction through derivatives hedging is a business decision, often benefitting shareholders, that should be protected by the business judgment rule as is any other disinterested, well-informed, investment or operating decision made in good faith by corporate management.
*Assistant Professor, University of Oregon School of Law. I would like to thank Professors Paul G. Mahoney and Richard W. Painter for helpful comments on earlier drafts of this article. I would also like to thank Maggie Finnerty and Phil Van Trease for superb research assistance.