Why would a firm ever forgo a positive NPV project? How can hedging help prevent this situation from arising?

What will be an ideal response?

Answer: If the firm has debt in its capital structure, we know that the managers may forego a positive NPV investment that must be financed by shareholders because too much of the increase in firm value accrues to bondholders. A hedging policy can help to avoid such as situation by avoiding the losses that may plunge the firm into financial distress and make the debt risky in the first place. By reducing the variance of income, the hedging policy makes the debt less risky in which case it sells for a price closer to face value.