Production Organisation and Risk Control When Market Instruments Are Available

Roger J. Bowden
Additional contact information
Roger J. Bowden: School of Management Studies, University of Waikato, Hamilton, New Zealand

Management Science, 1995, vol. 41, issue 6, 1073-1082

Abstract: A standard result in the theory of production under price risk is that if forward cover is available, production is determined in terms of the known, quoted forward or futures price, rather than expectations of future prices. In practice, however, primary production often involves joint or substitutable products, so that a natural hedge may be available. In addition, costs such as input prices or interest rates are highly variable and may be correlated with output prices. Supply risk adds to this variation. This paper considers the demand for market-based hedging instruments in relation to such natural hedges and to the possible use of storage for hedging purposes. Under normality of conditional price/cost variation it is shown that for relatively arbitrary nonlinear production technologies and attitudes to risk, producers can plan production and derive their demand for futures by decomposing the organisation into a number of activity centres, involving planning, marketing, cost, and treasury functions. Adding up the hedging demands from each centre, and equating to the effective supply of each type of hedge (natural and market), yields a linear system that may be solved for the optimum quantities of each hedge contract.

Keywords: exposures; forward; futures; hedging; joint products; price risk; production risk; risk; swaps; uncertainty (search for similar items in EconPapers)
Date: 1995
References: Add references at CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
http://dx.doi.org/10.1287/mnsc.41.6.1073 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:41:y:1995:i:6:p:1073-1082

Access Statistics for this article

More articles in Management Science from INFORMS Contact information at EDIRC.
Bibliographic data for series maintained by Chris Asher ().