UPDATE 2-Sterling fall prompts profit warning from On The Beach

* Company did not hedge on currency

* Fall in sterling leads to higher prices (Adds reaction, Brexit context)

Aug 9 (Reuters) - A sharp fall in the pound forced package holiday provider On The Beach to warn on profit on Friday, showing the threat posed to smaller companies that cannot manage the fallout from Britain’s volatile Brexit negotiations.

Sterling is the worst-performing major currency since the start of July, sliding against the dollar and the euro as Prime Minister Boris Johnson’s government edges towards a no-deal Brexit that could cause significant economic disruption.

Unlike travel groups such as TUI and Thomas Cook , On The Beach does not hedge against currency fluctuations, meaning hotel rooms booked in euros are becoming more expensive for customers who take the hit.

“With the increased likelihood of a no-deal Brexit, sterling has significantly devalued,” the company said. “This ...leads to a significant increase in OTB (On The Beach) prices versus full-risk competitors with currency hedges.”

The company has passed price rises on to customers, making it harder to gain market share.

As a result its full-year performance is now expected to be below expectations, it said.

The news sent its shares down 18% to 365.6 pence, cutting its market valuation by over 100 million pounds ($121 million) to 480 million.

On becoming prime minister last month, Johnson, who led the campaign to leave the European Union, has set up a showdown with Brussels by vowing to take Britain out of the bloc on Oct. 31 without a deal if it does not negotiate new terms.

The government has urged companies to be ready to leave the bloc without a transition deal, and while major British businesses have spent tens of millions of pounds to restructure their operations, there is concern for smaller firms.

Sterling fell further on Friday after official data showed the economy in the second quarter had unexpectedly shrank for the first time since 2012.

Against the euro, the pound was last down 0.3%, not far from a two-year low.

$1 = 0.8260 pounds Writing by Kate Holton; additional reporting by Shashwat Awasthi in Bengaluru; editing by Alexander Smith and Jason Neely