Insider trading and share repurchases: Do insiders and firms trade in the same direction?

Alice A. Bonaim University of Kentucky School of Management Finance Area 445J Gatton College of Business & Economics Lexington, KY 40506 (859) 257-5614 alice.bonaime@uky.edu Michael D. Ryngaert University of Florida Department of Finance Insurance & Real Estate PO Box 117168 Gainesville, FL 32611 (352) 392-9765 michael.ryngaert@cba.ufl.edu

August 2010

Abstract Signaling undervaluation is often considered a primary motive for repurchasing stock, but insider trading at repurchasing firms is not consistent with undervaluation: Insider buying and selling are more frequent in quarters when firms are repurchasing non-trivial amounts of stock. The probability of simultaneous insider sales and company-level repurchases is positively correlated with firm size, option exercise, industry-adjusted market to book, pre-repurchase returns and weak shareholder rights. Hence, repurchases are unlikely to be motivated by undervaluation when insiders sell stock. Our findings are consistent with insider trades either validating or negating the undervaluation signal of the repurchase. Abnormal returns of repurchasing firms with insider buying are 7.14, 4.44, and 4.73 percent during years one, two, and three, respectively, statistically different from 2.85, 0.66, and -0.61 percent for repurchasing firms with insider selling. The returns differential widens for trades by top executives only.

I.

Introduction Share repurchases have long been viewed in the finance literature as a means for

management to signal firm undervaluation (e.g., Vermaelen (1981). Consistent with the signaling story, repurchases are greeted with positive abnormal returns on average at their announcement and during the three years after their announcement (Ikenberry, Lakonishok, and Vermaelen (1995), Stephens and Weisbach (1998), Jagannathan and Stephens (2003), Chan, Ikenberry, and Lee (2004), Chan, Ikenberry, Lee and Wang (2006)). Managerial stock ownership lends credibility to the undervaluation signal because managers suffer a disproportionate loss on their shares if the firm is not actually undervalued when a repurchase is executed. In addition, repurchases might not convey positive information if management is perceived as trying to sell their stock at inflated values or to prevent a hostile takeover (Fried (2001)). Yet in most repurchase programs there is no prohibition on insider sales while repurchases are in progress. This paper addresses three questions related to the relationship between insider trading and signaling undervaluation through repurchases. First, do insiders trade in the same direction as their company in the case of actual share repurchases? Insider buying during a repurchase gives more credence to an undervaluation signal than insider selling. Second, does the direction of insider trades affect the strength of the undervaluation signal inherent in a share repurchase program? Specifically, are returns during and after the repurchase different based on insider trading? Third, to the extent insiders and firms do not trade in the same direction, can we explain why this is so? We employ a simple empirical design. Each quarter we identify firms with a non-trivial repurchase (at least 1 percent of the firms market capitalization) and with net insider trading (the dollar value of purchases less the dollar value of sales) that exceeds a threshold level (0.005

percent of stock market capitalization) in either the buy or sell direction. The remaining cases are classified as neutral. If repurchasing stocks are deemed undervalued, then insiders should be net buyers more frequently in quarters when firms repurchase. We find that in quarters during which companies are repurchasing, the frequency of net buying and net selling tends to be higher. An alternative way of framing the data is that, conditional on the presence of insider selling or insider buying, share repurchases are more frequently observed relative to the case where insider trading is neutral. In fact, share repurchases are most frequently observed when insiders are net sellers. The results are robust to the definition of insider: all insiders or top insiders. While increased repurchases make sense in quarters with insider buying, insider selling is more perplexing since it seems inconsistent with signaling undervaluation. Hence, we investigate whether abnormal returns for repurchasing firms differ based on insider trading. Prior research has generally found that stocks perform well after open market repurchase announcements (e.g., Ikenberry, Lakonishok and Vermaelen (1995), Chan, Ikenberry and Lee (2004)) and after self tender offers (Lakonishok and Vermaelen (1990)). Seyhun (2000) summarizes evidence that stock returns are also abnormally high in the year after insider buying and low in the year after selling. We find that, during the quarters of and prior to a repurchase, returns are significantly lower for firms with insiders buying as opposed to selling. Since prior stock returns can proxy for undervaluation (Stephens and Weisbach (1998), Peyer and Vermaelen (2008)), we anticipate that repurchasing firms with insiders buying are more likely to be undervalued than firms with insider selling. Our results on long-run returns confirm this hypothesis. When insiders and corporations are both buying, returns are abnormally high immediately after the actual repurchase and over the next three years. During the quarter after a repurchase coupled with insider buying, firms

experience positive abnormal returns of 3.68 percent. However, investors will not necessarily have information on repurchases and insider trading immediately. By the end of the quarter subsequent to the repurchase/insider buying quarter, investors would have the information, in most cases, to implement a trading strategy of buying these stocks. 1 This strategy yields significant returns of 7.15 percent, 4.44 percent, and 4.73 percent in years one, two, and three, respectively, or a cumulative three-year abnormal return of 17.15 percent. For repurchase/insider selling firms we find much smaller abnormal returns of 1.15 percent in the first post-repurchase quarter, 2.85 percent in year one, 0.66 percent in year two and -0.611 percent in year three, all statistically different from the returns in the net buying case. The cumulative three-year tradable return is only 2.89 percent. Returns for neutral insider trading cases consistently fall between returns for net buying and net selling cases. We interpret these results as evidence that long-run returns following share repurchases are positively related to the extent to which insider trading suggests undervaluation. In addition, the results are stronger when we focus on the trading of top executives, consistent with them possessing more valuable information about their companies financial futures. The frequency of insider selling with repurchases is puzzling in a signaling context. The returns evidence also suggests little undervaluation when repurchases occur in conjunction with insider selling. One interpretation is that these repurchases are motivated by rationales other than undervaluation. Kahle (2002) proposes that managers frequently repurchase to prevent dilution associated with stock option exercises. Insiders may also sell at least some of the stock associated with an option exercise to pay for shares and taxes. In a multinomial framework, we document that repurchases in conjunction with significant net selling are more likely with high
1

In virtually all cases, except extremely late reporting, the insider trading data would be available. The repurchase data should be available in most cases within three months of the end of a fiscal quarter. Current SEC rules require 10-Q and 10-K filings within three months of the end of a quarter, though some firms seek extensions.

levels of option exercise. Also, firms with simultaneous repurchases and insider selling tend to look less like value stocks than repurchasing firms. Based on a multinomial logit, we find that stock sales are more common for repurchasing firms with higher market to book ratios and recent stock returns. Another rationale for insiders selling while repurchasing could be managerial self interest. If the goal is to boost share prices or create more liquidity for selling insiders, then repurchasing while insiders are selling in the open market makes sense, and we should observe insider selling with repurchases more frequently for smaller firms.2 We find just the opposite. Larger firms tend to have more repurchase quarters combined with insider stock sales. If the motivation is managerial self interest, then we might also expect more insider sales with repurchases for companies with entrenched management, which is measured using the corporate governance index (G-Index) developed by Gompers, Ishii, and Metrick (2003). We find only weak evidence consistent with more repurchase/insider selling outcomes being associated with managerial entrenchment. Our results are primarily driven by cases where insiders are exercising large amounts of stock options and by larger firms, consistent with firms repurchasing stock to combat the dilutive impact of options. We also find some evidence that firms with higher market to book ratios are more likely to repurchase in conjunction with insider selling, consistent with repurchases taking place at high valuations as insiders reduce their own stock exposure. Overall, our evidence suggests that repurchases in conjunction with insider selling are not consistent with undervaluation. Those considering long term investing strategies based on repurchases should take note that this result does not obtain when insiders are simultaneously selling their stock.
2

Cook, Krigman, and Leach (2004) document liquidity increases during episodes of company share buybacks.

This paper is most closely related to the stream of literature that examines insider trading and stock returns around repurchases and issuances. A number of studies have examined insider trading around repurchase and issuance announcements to evaluate if insiders trade in a manner consistent with signaling and if insider trades are predictive of subsequent stock returns. Unlike repurchases, stock issues are generally viewed as negative signals and associated with underperformance in the long-run (Loughran and Ritter (1995)). Karpoff and Lee (1991) identify an increase in insider sales before announcements of common stock issuances and convertible debt issues, but not before announcements of straight debt issues. Lee (1997) studies the relationship between insider trading and returns following stock issuances. He finds that primary issuers underperform control firms, regardless of the direction of prior insider trading. However, secondary issuers underperform only when top executives sell their share in the open market prior to the issuance. His interpretation is that firms knowingly sell overvalued equity when insiders are selling before primary and secondary issuances, but not when insiders purchase shares beforehand. Clarke, Dunbar and Kahle (2001) find that pre-filing insider trading is related to long-run returns for completed seasoned equity offerings, but not for cancelled offerings. Finally, Jenter (2005) finds that top executives have open market purchases negatively related to net equity issues and seasoned equity offerings. On the repurchase side, Lee, Mikkelson, and Partch (1992) find that managers sell fewer and buy more shares prior to self tender offers but that insider trading returns to normal levels after the tender offer. Louis, Sun, and White (2008) identify abnormally high net insider selling during the quarter of fixed-price and Dutch-auction tender offer announcements. They also report a negative relationship between concurrent insider selling and future operating and stock performance in the case of Dutch-auction tender offers. Chan, Ikenberry, and Lee (2003) report

that insider purchases and sales are more frequently observed before and after open market repurchase announcements. They find that in the one to four years after an announcement, announcing firms perform worse when managers are buying as opposed to selling.3 Babenko, Tserlukevich, and Vedrashko (2010) also identify more insider open market purchases in the year before an open market repurchase announcement, and more top level insiders (e.g., CEO) purchases in the year after the announcement. However, they report better performance for firms with higher levels of pre-announcement insider purchases, at the time of the announcement and over the next two years. No data is presented on insider selling frequencies. While these studies are illuminating, the results are decidedly mixed. Furthermore, most repurchases are not executed via tender offers, and many firms announcing open market repurchase programs do not follow through on their commitment to repurchase shares (see e.g., Stephens and Weisbach (1998) and Bonaime (2010)). For the most part, minimal attention has been paid to the frequency and nature of insider trading in conjunction with actual share repurchases. We seek to fill this gap in the literature. The paper proceeds as follows. Section II lays out the data employed in the study. Section III examines repurchase/insider trading frequencies. Section IV examines long-run stock returns. Sections V and VI analyze the characteristics of firms in each repurchasing/insider trading category in univariate and multivariate settings. Section VII offers our conclusions. II. Sample and variable construction In devising the sample, we use data from Compustat quarterly spanning the period 1988 to June 2007. Following Billett and Hue (2007), we first remove financials and utilities, as these

They argue that insiders are not trading as if they are aware of any undervaluation, even though ex-post returns to repurchases are positive.

firms are in highly regulated industries and tend to have unreliable repurchase data. 4 Next, we delete foreign firms from our sample since many are not required to disclose insider transactions to the Securities and Exchange Commission.5 To eliminate firms that have just raised capital via a public offering and to allow for the calculation of lagged variables, we remove companies that have been in the database for eight quarters or less. We also eliminate firms with less than 10,000 shares outstanding and those with a negative book value at the beginning of the fiscal quarter since the number of shares outstanding is used in multiple calculations, including our repurchase calculation, and market to book ratio is used in both univariate and multivariate analyses. Finally, since part of our analysis is devoted to stock returns, we delete firms without current stock price data in Compustat or without stock price data from CRSP and firms whose stock price at the beginning of the quarter is less than one dollar as calculating returns on these stocks may be problematic due to bid-ask bounce. We are left with 285,251 firm-quarter observations. Our variables of interest include actual share repurchases and insider transactions. We calculate share repurchases as the spending on the purchase of common and preferred stock reported in Compustat quarterly minus any decrease in preferred stock.6 Banyi, Dyl, and Kahle (2005) identify this measure as the most accurate proxy for actual common shares repurchased, especially for firms with high levels of employee stock option exercises. If the data covering the purchase of common and preferred stock are missing, but the number of shares outstanding
4

During our sample period, banks and utilities have missing or combined values of Purchase of Common and Preferred Stock (Compustat quarterly data item 93) for 68.99 percent of their firm-quarter observations. 5 Companies classified as Foreign Private Issuers are exempt from disclosing insider transactions to the Securities and Exchange Commission. Since this classification depends on shareholdings, it is relatively easy for a firm to fall in and out of this status, creating inconsistent reporting. See http://www.law.uc.edu/CCL/34ActRls/rule3b-4.html for the full definition of Foreign Private Issuer. 6 We calculate any decrease in preferred stock as the maximum of (1) any negative change in the carrying value of preferred stock (Compustat quarterly data item 55), (2) any negative change in the redemption value of preferred stock (Compustat quarterly data item 71), and (3) zero. If the data on preferred stock are missing, then we assume that there was no decrease in preferred stock.

remained exactly the same, then we assume that no repurchases occurred.7 We modify our proxy slightly by considering any increase in treasury stock as a lower bound for share repurchases. Therefore, if our initial proxy is less than the change in the value of treasury stock, we set share repurchases equal to the change in treasury stock. In addition, if repurchasing data is missing, but the level of treasury stock increased by more than 0.5 percent, then we use the increase in treasury stock as our proxy for repurchases.8 To report this measure as a percentage of shares outstanding, we divide our final proxy by the firms market capitalization, defined as the number of shares outstanding at the beginning of the fiscal quarter times the minimum monthly closing price during the current quarter.9 A proxy for share repurchases is calculated for 279,751 firmquarters, or 98.1 percent of our sample. We use one percent of market capitalization as our cutoff for non-trivial repurchases.10,11 Of our sample, 20,296 observations (7.3 percent) qualify as conducting non-trivial repurchases. We obtain data on insider transactions reported in SEC form 4 from the Thomson Financial Insider Filing Data Files. For each firm fiscal quarter, we calculate the total dollar values of insider purchases, which are restricted to open market purchases (SEC code P) and sales, which include open market sales (SEC codes S).12 For the cases in which total insider sales exceed total insider purchases by at least 0.005 percent of the firms market capitalization at the end of the prior fiscal quarter, we label the behavior of these insiders as net selling. If total
7 8

These cases represent 0.61 percent of our firm-quarter observations. These cases represent 0.13 percent of our firm-quarter observations. 9 By using the minimum monthly closing price, we assume that managers somewhat attempt to buy back shares when stock prices are depressed. Share repurchases calculated using the average monthly closing price instead are highly correlated (correlation coefficient = 0.99) with our proxy. 10 Results are similar when we decrease our cutoff to 0.5 percent. 11 Banyi, Dyl, and Kahle (2008) find that eliminating firms with common stock less than 1% of market capitalization improves the accuracy of the repurchase measure since many small values of Purchases of Common and Preferred Stock are solely due to preferred buybacks. 12 We also used open market sales plus sales to the company (SEC code D) as our measure of insider sales. There were some reporting changes for this in the middle of our sample and the results are essentially the same with this different definition.

insider purchases surpass total insider sales by the same cutoff, then we say that these insiders are net buying. When the difference between insider purchases and sales is trivial or if no insider transactions occur during the quarter, then we classify these cases as neutral.13 Finally, we are interested in the determinants of the relationship between share repurchases and insider trading, which potentially include firm size, market to book ratio, option exercise, and corporate governance. First, firm size is measured as market capitalization, and size deciles are calculated each calendar quarter. Second, since market to book ratios potentially vary with time and industry, we calculate net market to book as the ratio of market capitalization to the book value of common equity of the firm minus the industry median market to book ratio for that calendar quarter. Industry is defined by the first two digits of a firms SIC code. These variables are calculated using data from the fiscal quarter prior to the repurchase measurement quarter. Third, option exercise is the quarterly sum of the number of options exercised times the market price on the day of exercise. We use the corporate governance index (G-Index) developed by Gompers, Ishii, and Metrick (2003), available through the IRRC governance database. The database covers firms included in the S&P 1500 index as well as other publicly traded firms with high market capitalization and/or high institutional ownership levels. The G-index is updated every two to three years and the number of included firms varies over time.14 This index measures the balance of power between managers and shareholders by counting the number of provisions that reduce shareholders rights, implying that stronger shareholder rights are associated with low scores. For our study these classifications are based on the most recent G-index score. To the extent that firms with weak

13

We also used an alternative definition of net insider trading based on dollar values, with positive $100,000 being a net buyer and negative $100,000 being a net seller. Our results are essentially the same. 14 The most recent number of firms with a G-index is 1,896 total in 2006. Results for subsamples including the Gindex are smaller by construction.

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governance may use repurchase programs to aid insiders in disposing of their shares at good prices or create liquidity, we would expect higher levels of the G-index to be associated with greater paired frequencies of insider selling and share repurchases. In addition, when examining the probability that a firm conducts a repurchase, we also include variables that have been shown to affect the unconditional odds of doing a share repurchase (see Dittmar (2000)). These include stock returns in the prior quarter, cash divided by total assets, and financial leverage defined as the debt to assets ratio. For calculation of abnormal returns to stocks based on their insider trading/repurchase status, we employ a methodology that matches individual firm performance to a group of stocks with similar book to market ratios and similar market capitalization. The data for the analysis comes from CRSP. The details are presented in the abnormal return section.

III.

Repurchase/insider trading frequencies

Our first empirical question is whether or not insiders tend to trade in the same direction as their firm. Panel A of Table 1 presents univariate statistics that describe the general direction of insider trades conditional on whether or not a firm is participating in a non-trivial share repurchase. By our definition, firms repurchase non-trivial amounts of stock in 7.26 percent of our 279,751 firm-quarter observations. We find that insiders are net sellers (buyers) for 31.59 percent (14.00 percent) of our sample, implying a 2.26 ratio of net selling firms to net buying firms for the entire sample. Only 2.75 percent of all firms have quarters where insiders are significant net sellers and firms are non-trivial repurchasers. Only 1.11 percent of firms are significant repurchasers while insiders are significant buyers. For the neutral insider

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trading/repurchase classification, 3.39 percent of all firms fit this description.

Chi-square

statistics for this 2x3 matrix suggest that repurchases are not evenly distributed between the various insider trading categories. It is also worth noting that the insider trading frequencies drop considerably when we only look at top insiders, defined as Chairman of the Board, CEO, CFO, Chief Operating Officer, General Counsel, President, General Partner, Officer and Director, Director and Beneficial Owner, Officer and Beneficial Owner, or Officer, Director, and Beneficial Owner. This is not surprising given the smaller number of firm officials that make up this category. Panel B compares the frequency of observed insider trading activity for firms that repurchase in a quarter versus those that do not, and we find that both insider purchasing and insider selling occur with greater frequency during the quarters in which firms buy back shares. Conditional on repurchasing, 37.93 percent of firms have net insider selling, while only 31.09 percent of insiders are net sellers when minimal repurchasing is done in a quarter. These results are statistically different at the 1 percent level. Similar results obtain for top insiders as well, with the frequency of net insider selling being 18.46 percent with repurchase and only 15.47 percent for those with little or no repurchases. The frequency of insider net buying also goes up conditional on a firm repurchasing. Conditional on significant repurchasing, 15.31 percent of firms have net insider buying, while only 13.90 percent of insiders have net buying when the firm is not repurchasing shares. Again, similar patterns obtain for top insiders. The obvious inference is that the amount of neutral insider trading activity takes a big drop when a firm is repurchasing stock. It falls from 55.01 percent conditional on no repurchases to 46.76 percent conditional on repurchasing. In Panel C, conditional on insider trading behavior, we find that firms with net insider selling are the most likely to repurchase shares, followed by firms with net insider buying. Firms with

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net selling have repurchase activity 8.71 percent of the time, firms whose insiders are net buyers have repurchase activity 7.94 percent of the time, and firms with neutral insider activity have repurchase activity only 6.23 percent of the time. The results are similar for top insiders, though there is a slight increase for repurchasing among firms with insider buying. While ex ante we expected to find more frequent insider buying in conjunction with repurchasing, the surprising result is the increased frequency of insider selling in conjunction with repurchasing. We now turn to the evidence on abnormal returns for repurchasing firms to see if the value of information signaled in repurchases differs by the insider trading behavior accompanying the repurchase. IV. Long-run stock returns

Calculating long-run stock returns following repurchase activity is a natural empirical test for if and how much a companys stock was actually undervalued at the time that a buyback took place. Some argue that the undervaluation signal inherent in a share repurchase is invalid unless insiders retain their stock (Fried (2001)). At a minimum, insider purchases give some credence to an undervaluation signal while insider sales potentially detract from it. We further explore this idea by segmenting long-run post-repurchase abnormal returns on the direction of insider trades. A. Methods Quarterly and annual buy-and-hold abnormal returns are calculated using monthly returns from CRSP. Abnormal returns are the difference in buy-and-hold returns on the repurchasing firms stock and a size and book to market matched portfolio. The portfolio of control firms is constructed by identifying all firms in the same size decile as the repurchasing firm during the quarter of the repurchase. We then select the 20 firms that are closest in book to market to the repurchasing firm, and equal weights are assigned to each firm at the beginning of the investment 13

period. If a firm delists during the investment period, we assume that all proceeds from that investment are placed in a market portfolio with returns equal to the value-weighted CRSP index. The control portfolio is rebalanced at the beginning of each investment year. Quarter 0 is the fiscal quarter in which share repurchase and insider trading proxies were evaluated. Annual abnormal returns begin at quarters 2, 6, and 10 for years 1, 2, and 3, respectively. The return in year 1 is presumably the first return that could be acted on with near certainty by investors since quarterly repurchase data may take up to three months to be reported. Bootstrapping is used to infer the statistical significance of long-run returns. Specifically, we replace each firm in our sample with a randomly selected firm not in that particular subset of firms, but in the same size and book to market quintiles at quarter 0. Using the procedure described in the paragraph above, we calculate the abnormal returns for quarters -1, 0, +1 and years 1, 2, and 3 for each firm in our new random sample as well as the mean abnormal returns for the entire sample. This process is repeated for a total of 10115 random samples so that the simulated p-values reported in this paper reflect the percentage of the 101 random samples that have mean abnormal returns higher than the mean abnormal return for our sample. B. Abnormal returns results Table 2 presents abnormal returns for firms that repurchased more than 1 percent of their shares outstanding in a quarter conditional on their insider trading classification based on the trades of all insiders. Results in Panel A indicate that abnormal returns for quarter 1 and for the three years after quarter 1 are correlated with the direction of net trading by all insiders. During the quarter immediately after the repurchasing activity we document abnormal buy-and-hold returns that are greater for firms with net insider buying than those with net insider selling.

15

The number of bootstrapped sample will be increased for future versions of the paper.

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Quarter 1 abnormal returns are a statistically significant 2.53 percent higher for stocks with net insider buying than for those with net insider selling. Furthermore, for longer term windows that investors could trade on, the annual abnormal buy-and-hold returns for years 1, 2, and 3 are 2.85, 0.66, and -0.61 percent for stocks with net insider selling compared to 7.15, 4.44, and 4.73 percent for stocks with net insider buying. Abnormal returns for firms whose insiders

transactions are considered neutral consistently fall between those of net sellers and buyers. The abnormal returns are increasing to extent that net insider trades are consistent with undervaluation, and the long run abnormal returns for stocks with net insider selling are negligible after one year. Table 3 replicates the results in Table 2 for the case where insiders are defined as the top insiders of the firm. Presumably, these insiders are better informed of the firms prospects and probably have more influence over repurchase decisions. The drawback in using this group is that the number of net buys and net sells shrinks considerably. Nevertheless, the results in Table 3 are quite similar to Table 2, but are in fact a bit stronger. For instance, abnormal returns are smaller in quarter 1, and years 1, 2, and 3 for repurchasing firms with net insider selling. Conversely, abnormal returns are higher in the long run when top insiders are net buyers relative to when all insiders are net buyers. For the case where repurchases exceed the 1 percent threshold, the differences between net buyers and sellers are also larger. For instance, the abnormal return difference for top insiders is 20.75 percent for year 1 through 3 as opposed to 14.03 percent for all insiders. The takeaway of these results is that short and long term performance for firms repurchasing stock is quite sensitive to the concurrent signals sent by insiders. As we have suggested, it could be argued that repurchases conducted when insiders are selling stock convey little in the way of

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positive information, particularly if top insiders are significant net sellers. We develop a better understanding of the types of firms in each classification in the following section.

V.

Characteristics of firms in various subsamples Next, we examine the characteristics of the firms in each of the six different

repurchase/insider trading classifications.

We are particularly interested in whether the

characteristics of repurchasing firms conditional on insider selling are different in a way that might suggest that repurchases are not consistent with signaling motivations. The means

presented in Table 4 are for the intersection of repurchasing status and insider trading classification. Panel A intersections are based on trades by all those classified as insiders, while Panel B is based on trades by top insiders. A number of items stand out. First, while

repurchasing firms tend to have more contrarian characteristics, i.e., lower market to book ratios net of two digit SIC code industry median and lower lagged returns net of the value weighted market return in the past three months, this is not true when net insider selling accompanies those repurchases. In those cases, the net of industry market to book ratio is higher and recent net of market stock returns are very similar to the non-repurchase average.16 This is even more

pronounced in Panel B for top insiders, whom might be considered the best informed insiders. Hence, repurchases accompanied by insider sales do not look as contrarian or value oriented as other stock repurchases. Conversely, repurchases accompanied by net insider buying tend to have the lowest net market to book ratios and the lowest past stock return performance, consistent with contrarian market timing. Also, the intersection of low repurchasing and net
16

Note that the Net M/B variable is positive because M/B is skewed and industry medians are subtracted out from each firms M/B. This variable is winsorized at the 1% level.

16

insider selling has the highest mean net market to book ratio and the highest prior three month stock returns. Again, this is most pronounced in the case of trading activities of top insiders. It is also the case that the dollar value of options exercised deflated by market capitalization is much higher for cases where insiders are significant net sellers. The option variable is also slightly larger for repurchasing firms. The data is consistent with Kahle (2002) who argues that firms repurchase stock when options are exercised to avoid dilution and with the idea that insiders often sell some of the shares received in an option exercise for liquidity and tax reasons. While we hypothesized that firms might engage in repurchases to stabilize (or boost) stock prices or provide liquidity when insiders are selling, Table 4 shows that repurchasing firms with higher net insider selling firms tend to be larger firms as evidenced by their higher market capitalizations and higher size deciles. Presumably, repurchase activity for larger firms would be less effective in moving prices or providing liquidity. Finally, if there is a managerial self interest story motivating stock repurchases accompanied by insider selling, we might expect such firms to be more entrenched. A higher G-Index is often interpreted as indicators of

entrenchment. However, the net selling/repurchasing firms do not tend to have higher than average G-indexes for our sample. Finally, it is of some interest that the repurchasing firms tend to hold less cash relative to assets and have higher leverage ratios. Dittmar (2000) finds that repurchasing firms tend to hold more cash and have less leverage. For any of the above mentioned variables, mean comparisons are problematic without controlling for all factors affecting share repurchase and insider trading decisions. Therefore, we use multivariate analysis in next section to further investigate the intersection of repurchases and insider trading.

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VI. Explaining stock repurchase/net insider trading patterns A. Multinomial Logit Results The fact that returns after stock repurchases accompanied by non-trivial net insider sales do not generate large positive returns in subsequent quarters and years, suggests that motives other than signaling, or perhaps false signaling, may be at work. To examine this issue we conduct a multinomial logit analysis to determine what variables influence the joint choice of share repurchase (or not) and net insider stock trading (buy, neutral, sell). The variables

displayed in Table 4 are employed, along with annual time fixed effects, to discern why firm and managerial choices lead to one of the six outcomes. Multinomial model results are cumbersome to report and often difficult to interpret. Nevertheless, we estimate four different multinomial logit models. In Table 5, we estimate a model with the natural log of the G-index included, but since the G-index is available for only one quarter of our observations, we also estimate a model without the G-index variable. We estimate each of these two models for our two different sets of insiders used to define net insider trading outcomes: all insiders and top insiders. Hence, we have four multinomial logit models. We first report the coefficients from the multinomial logit model in four separate panels in Table 5. The coefficient results are reported relative to the base case of repurchasing/net selling. In many ways, this is the most interesting case, so it is instructive to compare the impact of certain variables to all other outcomes; particularly the other repurchasing outcomes. Relative to the other repurchasing outcomes, the coefficients reported in all panels suggest that higher levels of prior stock returns and higher levels of market to book ratios increase the odds of a firm having more net selling. If repurchasing is viewed as a contrarian strategy in which managers repurchase stock of firms that appear undervalued, the

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repurchasing/net selling outcomes seem to be less influenced by these considerations. The most negative coefficients for lagged returns and net market to book were for the repurchasing/net buying outcome, suggesting that these firms have the most contrarian (value) outlook. This may be viewed as consistent with our stock return evidence. For all four panels, we also see that the coefficients are uniformly negative and significant for the level of options exercised and firm size. This means that higher levels of options exercised (deflated by market capitalization) and larger firms are more apt to experience the repurchase/selling outcome. As suggested previously, the option result is consistent with the idea that insiders will be inclined to sell stock when they are exercising for tax and liquidity reasons and that firms may wish to repurchase stock to avoid dilution in this circumstance (see Kahle (2002)). Arguably, repurchases motivated by desires to avoid dilution of share count are less apt to serve as signals. The joint proclivity of larger firms to repurchase stock while insiders sell is less easily explained. This suggests that repurchases are not done to create liquidity or price pressure for smaller capitalization stocks and in the process aid insiders trying to sell their stock. To the extent that larger companies are less likely to be mispriced, it again suggests that that firms repurchasing stock with this profile will be less apt to have a signaling motivation. A natural argument for the existence of net selling with repurchasing is that firm managers are not acting in shareholder interests. They are, perhaps, trying to boost share prices with repurchases to possibly aid selling shareholders. Panels B and D contain smaller samples for which the G-index variable is available. For Panel B (all insiders) and to a lesser extent Panel D (top insiders), the coefficient estimates suggest that, relative to the repurchasing/net selling outcome, firms with more entrenchment (higher G-index) are less likely to fall into any one of the three non-repurchasing categories. Conditional on repurchasing, however, it does not

19

appear that shareholder rights have more of an effect on the likelihood of insiders being neutral or net buyers, relative to the net selling case. Hence, the evidence is a bit inconclusive on this point. To get a more complete interpretation of the multinomial logit models, in Table 6 we report the estimates of marginal effects for the models. To conserve space, this is only reported for the case of insider trades that tracks all insiders.17 Marginal effects or partial effects show the impact of a change in each independent variable for each potential outcome evaluated at the mean of the all the sample variables, and the coefficients of all the marginal effects for each possible outcome sum to zero by construction. So, an increase in the odds of observing one outcome as a particular variable increases must lead to a reduction in the odds of some other outcomes occurring. The various panels in Table 6 also give the estimated change in probabilities of observing a particular outcome if a variable goes from a standard deviation below its mean to a standard deviation above its mean. It is potentially most constructive to compare the marginal effects for repurchases with net selling outcome and repurchases with net buying. In both cases, the frequency of observing these joint outcomes is rather low, so we would expect the boost in probabilities of observing these outcomes to be fairly low for a change in any variable. Consistent with the multinomial logit coefficients, higher levels of option exercises and higher levels of market capitalization (as captured by firm size deciles) are associated with significantly higher odds of repurchasing/net selling. For the entire sample case (Panel A) the probability increases by approximately 1.09 percent (1.72 percent) when options (size decile) moves up one standard deviation. This is large, given that the unconditional odds of observing a repurchase/net insider selling outcome are only 2.75 percent. While the signs of the marginal effects are similar for the repurchasing/net selling
17

Results are similar in magnitude and significance for the top insider case.

20

and the repurchasing/net buying cases, the economic significance differs greatly. Increases in options exercises and size decile also have a positive impact on the probability of seeing a repurchase/net buying outcome, but the increase in odds is far smaller than for the repurchase/net selling outcome. Additionally, decreases in net market to book, lagged returns, and cash more positively affect the probability of observing net buying with repurchases as opposed to net selling. Finally, Panel B contains the G-index variable with a much smaller sample. The odds of observing the repurchase/net selling outcome go up about 0.44 percent with a one standard deviation increase around the mean of the G-index variable. A higher G-index has a negligible impact on the odds of observing a repurchase/net buying outcome. Interestingly, the biggest negative impact on probability of an outcome associated with an increase in the G-index is the low repurchase/net selling outcome. This could be construed as evidence that low G-index firms are less entrenched and less likely to use repurchases when insiders are selling. The fact that repurchases in general go up with the level of the G-index tends to undercut that interpretation.

B. Explaining net selling conditional on repurchasing behavior Heretofore, we have emphasized two insider trading outcomes that are quite different in nature; insider buying in conjunction with repurchases, in which insiders trade in the same direction as the repurchasing firm, and insider selling in conjunction with repurchases, in which insiders trade in a different direction than the firm. By using dummy variables, we have tended to overlook differing magnitudes of insider trades conditional on repurchase activity in both the buy and sell direction. We have also ignored the size of the repurchases themselves. Finally, we

21

have not controlled for the various factors that influence insider trading when trying to determine if insiders and firms trade in the same direction. To further investigate if insiders trade in a manner inconsistent with the presumed signaling intent of a repurchase, we estimate a final set of regressions. In Table 7, we seek to explain variation in net insider selling (the dollar value of insider sales less the dollar value of insider purchases) deflated by market capitalization of the firm. This is a continuous variable that can be positive with selling and negative with buying, and therefore takes into account magnitudes of both buying and selling. We regress this against our control variables (lagged returns, net M/B, size decile, and option exercises), current quarter and prior quarter repurchase dummies, and annual time fixed effects. We also run a separate specification replacing the repurchase dummies with the total fraction of shares repurchased in the current and prior quarter in case magnitude of repurchase affects insider trading behavior. If insiders and firms trade in the same direction during repurchase quarters, controlling for all other factors, then the coefficients on the current quarter repurchase variable should be negative. We also include the lagged quarter repurchase to see if firms might be repurchasing to abet future selling in the firms stock. We find that coefficients on lagged repurchases are negative and significant in all cases, implying that more repurchases in the quarter prior to the insider trading quarter is associated with less net insider selling. For all insiders, repurchasing during the insider trading quarter is associated with more insider selling; however, for top insiders, the relationship between concurrent repurchases and insider trading in inconclusive. We also confirm that insider selling is positively related to option exercise, industry-adjusted market to book ratio, lagged returns, and firm size. In essence, we find no conclusive evidence that insiders systematically trade in the same direction as their firms, even after controlling for factors affecting insider trades. One

22

interpretation is that the unusually high level of insider buys are counteracted by the unusually high levels of insider sells in repurchasing quarters. VII. Conclusion Though share repurchases are generally viewed as a signal that a firms stock is trading below its fundamental value, the validity of the undervaluation signal is questionable when firm insiders are simultaneously selling significant amounts of stock. This study adds to the extant literature by examining the general direction of insider trades during actual share repurchasing, the effect of insider trading on the strength of the undervaluation signal implied by a buyback, and the determinants of insider trading at the time of share repurchases. We find that both net insider buying and net insider selling increase during the quarter of a share repurchase. Similarly, we find stock repurchases are more likely in quarters where insiders are selling or buying and less likely when insider trading activity is neutral. While insider buying during a share repurchase is consistent with expectations, net insider selling during a share repurchase is more puzzling. We investigate the relationship between insider trading and share repurchases and the strength of the undervaluation signal implied by the repurchase by examining stock returns in the period of and after the stock repurchases. We find that net insider buying reinforces this signal while net insider selling weakens it. In fact, repurchases in association with same quarter net insider stock sales tend to generate little in the way of long run abnormal returns. Repurchases with net insider buying outstrip returns to repurchases with net insider selling by as much as 14 to 24 percent during the three years after the repurchasing quarter. In cases where insiders are neutral when the firm is repurchasing stock, the abnormal returns fall between the cases where insiders are net buying and insiders are net selling.

23

We also investigate the nature of firms that engage in net insider selling and non-trivial repurchases in the same quarter. We find that these firms tend to have large amounts of options exercised, higher market to book ratios and higher lagged returns than other firms engaging in repurchases. They also tend to be larger. Since repurchases to offset dilution may not be motivated by signaling considerations, this may partially explain the lower returns to firms repurchasing while having insider selling. The lower returns are also consistent with insiders not acting as contrarian or value investors relative to cases of repurchases not associated with insider selling. We also find some weak evidence that firms that repurchasing/net insider selling firms tend to have weaker shareholder rights as proxied for by the G-index. That said, we find that most repurchasing firms tend to have elevated levels of the G-index. Taken together, our findings suggest that insider selling during a share repurchase is not consistent with undervaluation as a motive for repurchasing. There is only weak evidence that the practice is associated with weaker shareholder rights. The practice seems to be partially driven by option exercises and the tendency of firms to repurchase shares when options are exercised to avoid dilution. This is not a signaling rationale. We also suggest that long term investing strategies based on repurchases as a signal of undervaluation should incorporate simultaneous insider transactions, which help to clarify the validity of the signal.

24

REFERENCES Babenko, Ilona, Yuri Tserlukevich, and Alexander Vedrashko, 2008, Insider purchases and the credibility of open market share repurchase signals, Working Paper. Banyi, Monica, Edward Dyl, and Kathleen Kahle, 2005, Measuring share repurchases, Working Paper. Banyi, Monica, Edward Dyl, and Kathleen Kahle, 2008, Errors in estimating share repurchases, Working Paper. Chan, Konan, David Ikenberry, and Inmoo Lee, 2003, Do Managers Trade Consistently? Evidence linking Insider trading to actual share repurchase activity, Working paper, College of Business, University of Illinois at Urbana-Champaign. Chan, Konan, David Ikenberry, and Inmoo Lee, 2004, Economic sources of gain in stock repurchases, Journal of Financial and Quantitative Analysis 39, 461-479. Chan, Konan, David Ikenberry, Inmoo Lee, and Yanzhi Wang, 2006, Share repurchases as a tool to mislead investors: Evidence from earnings quality and stock performance, Working paper. Cook, Douglas O., Laurie Krigman, and J. Chris Leach, 2004, On the Timing of Open Market Repurchases, The Review of Financial Studies 17, 463-498. Dittmar, Amy, 2000, Why do firms repurchase stock?, Journal of Business 73, 331-355. Fried, Jesse, 2001, Open market repurchases: signaling or managerial opportunism?, Theoretical Inquiries in Law 2, 865-894. Gompers, Paul, Joy Ishii, and Andrew Metrick, 2003, Corporate governance and equity prices, Quarterly Journal of Economics 118, 107-155. Ikenberry, David, Josef Lakonishok, and Theo Vermaelen, 1995, Market underreactions to open market share repurchases, Journal of Financial Economics 39, 181-208. Ikenberry, David, Josef Lakonishok, and Theo Vermaelen, 2000, Stock repurchases in Canada: Performance and strategic trading, Journal of Finance 55, 2373-2397. Jagannathan, Murali, and Clifford Stephens, 2003, Motives for multiple open-market repurchase programs, Financial Management 32, 71-91. Jenter, Dirk, 2005, Market Timing and Managerial Portfolio Decisions, Journal of Finance 60, 1903-1949 Kahle, Kathleen, 2000, Insider trading and the long-run performance of new security issues, Journal of Corporate Finance: Contracting Governance, and Organization 6, 25-54. 25

Kahle, Kathleen, 2002, When a buyback isnt a buyback: open market repurchases and employee options, Journal of Financial Economics 63, 235-261. Lakonishok, Josef, and Theo Vermaelen, 1990, Anomalous price behavior around repurchase tender offers, Journal of Finance 45, 455-477. Lee, Inmoo, 1997, Do firms knowingly sell overvalued equity, Journal of Finance 52, 14391466. Lee, Scott, Wayne Mikkelson, and Megan Partch, 1992, Managers trading around stock repurchases, Journal of Finance 47, 1947-1961. Louis, Henock, Amy Sun, and Hal White, 2008, Insider trading around repurchase tender offers: Timing versus informed trading, forthcoming Financial Management. Peyer, Urs, and Theo Vermaelen, 2009, The nature and persistence of buyback anomalies, Review of Financial Studies 22, 1693-1745. Seyhun, Nejat H., 2000, Investment Intelligence from Insider Trading, MIT Press. Stephens, Clifford, and Michael Weisbach, 1998, Actual share reacquisitions in open-market repurchase programs, Journal of Finance 53, 313-333. Vermaelen, Theo, 1981, Common stock repurchases and market signalling, Journal of Financial Economics 9, 139-183.

26

Table 1: Insider trading and repurchase frequencies

This table presents summary statistics on the interaction of actual share repurchases with insider transactions using quarterly share repurchase and insider trading data from 1988 until 2007. Actual share repurchases are calculated as the dollar value of purchases of common and preferred stock reported in Compustat quarterly minus any decrease in preferred stock. If that figure is less than the quarterly increase in treasury stock, then share repurchases are set equal to the increase in treasury stock. Share repurchases are expressed as a percentage of shares outstanding and broken into two groups: greater than 1% and less than or equal to 1%. Net selling implies that the difference in total insider sales and total insider purchases for is at least 0.005% of last quarters market capitalization. Net buying indicates that total insider purchases exceed total insider sales by at least 0.005% of the firms market capitalization at the end of the prior quarter. All other cases are classified as neutral insider trading. Insider trades are calculated for all insiders and for top insiders. Top insiders include Chairman of the Board, CEO, CFO, Chief Operating Officer, General Counsel, President, General Partner, Officer and Director, Director and Beneficial Owner, Officer and Beneficial Owner, or Officer, Director, and Beneficial Owner. T-statistics for difference in means are reported in parentheses when relevant. *, **, and *** indicate significance at the 10%, 5%, and 1% level, respectively.

Panel A: Joint frequencies of insider trading and share repurchase classifications

Each cell in this panel presents (1) the frequency of the intersection of the events represented in each row and each column and (2) the percentage of total firmquarter observations that this intersection represents. All insiders Share repurchases Insider trading Net selling 1% 80,667 28.84% 142,735 51.02% 36,053 12.89% 259,455 92.74% > 1% 7,698 2.75% 9,490 3.39% 3,108 1.11% 20,296 7.26% Row total 88,365 31.59% 152,225 54.41% 39,161 14.00% 279,751 100.00% 1% 40,138 14.35% 201,874 72.16% 17,443 6.24% 259,455 92.74% Top insiders Share repurchases > 1% 3,746 1.34% 14,941 5.34% 1,609 0.58% 20,296 7.26% Row total 43,884 15.69% 216,815 77.50% 19,052 6.81% 279,751 100.00%

Neutral

Net buying

Column total

27

Panel B: Insider selling frequencies conditional on repurchase classification

Non-repurchasing Insider trading definition All insiders: Net selling frequency (Repurchases 1%) 31.09% Repurchasing (Repurchases > 1%) 37.93% Repurchasing Non-repurchasing 6.84% (19.40)*** 2.99% (10.61)*** -8.26% (-22.70)*** -4.19% (-13.10)*** 1.42% (5.42)*** 1.20% (6.15)***

Top Insiders: Net selling frequency

15.47%

18.46%

All Insiders: Neutral frequency

55.01%

46.76%

Top Insiders: Neutral frequency

77.81%

73.62%

All Insiders: Net Buying frequency

13.90%

15.31%

Top Insiders: Net buying frequency

6.72%

7.93%

Panel C: Share repurchase frequencies conditional on insider trading classification

Direction of insider trading Net selling 8.71% Neutral 6.23% Buying 7.94% Net selling Neutral 2.48% (21.86)*** 8.54% 6.89% 8.45% 1.65% (11.42)*** Net selling Net buying 0.78% (4.66)*** 0.09% (0.38) Net buying Neutral 1.70% (11.35)*** 1.55% (7.45)***

28

Table 2 Long-run abnormal returns for repurchasing firms based on trading classifications for trades by all insiders
This table presents quarterly and annual buy and hold abnormal returns for repurchasing firms (repurchases > 1% of market cap) segmented on the level of repurchases and the direction of trading by all insiders. Repurchase and insider trading data are from quarter 0. Year 1 begins at quarter 2, year 2 at quarter 6, and year 3 at quarter 10. Repurchases are expressed as a percentage of shares outstanding. Net selling implies that the difference of total insider sales and total insider purchases during the current quarter is greater than 0.005% of last quarters market capitalization. Net buying indicates that total insider purchases exceed total insider sales by at least 0.005% of the firms market capitalization at the end of the prior quarter. If the absolute value of the difference between insider purchases and insider sales is less than 0.005% of the firms lagged market capitalization, then the firms insider trading is considered neutral. Abnormal returns are based on size and book to market matched portfolios with p-values (in parentheses) based on bootstrap simulations.

Frequency 3139

Insider trading Net buying

Quarter -1 -7.041% (1.000) -4.032% (1.000) -0.695% (1.000) -6.347% (1.000)

Quarter 0 -4.176% (1.000) -3.306% (1.000) -1.453% (1.000) -2.723% (1.000)

Quarter 1 3.679% (0.000) 1.200% (0.000) 1.147% (0.000) 2.532% (0.000)

Year 1 7.145% (0.000) 3.860% (0.000) 2.851% (0.000) 4.294% (0.000)

Year 2 4.440% (0.000) 2.178% (0.000) 0.655% (0.010) 3.785% (0.000)

Year 3 4.734% (0.000) 0.834% (0.059) -0.611% (0.149) 5.345% (0.000)

9550

Neutral

7760

Net selling

Net buying - Net selling

29

Table 3 Long-run abnormal returns for repurchasing firms based on trading classifications for trades by top insiders
This table presents quarterly and annual buy and hold abnormal returns for repurchasing firms (repurchases > 1% of market cap) segmented on the level of repurchases and the direction of trading by top insiders. Repurchase and insider trading data are from quarter 0. Year 1 begins at quarter 2, year 2 at quarter 6, and year 3 at quarter 10. Repurchases are expressed as a percentage of shares outstanding. Net selling implies that the difference of total insider sales and total insider purchases during the current quarter is greater than 0.005% of last quarters market capitalization. Net buying indicates that total insider purchases exceed total insider sales by at least 0.005% of the firms market capitalization at the end of the prior quarter. If the absolute value of the difference between insider purchases and insider sales is less than 0.005% of the firms lagged market capitalization, then the firms insider trading is considered neutral. Abnormal returns are based on size and book to market matched portfolios with p-values (in parentheses) based on bootstrap simulations.

Frequency 1630

Insider trading Net buying

Quarter -1 -6.426% (1.000) -3.690% (1.000) 0.021% (0.455) -6.447% (1.000)

Quarter 0 -3.896% (1.000) -3.024% (1.000) -1.076% (1.000) -2.820% (1.000)

Quarter 1 4.318% (0.000) 1.466% (0.000) 0.753% (0.040) 3.565% (0.000)

Year 1 8.394% (0.000) 3.988% (0.000) 2.054% (0.040) 6.340% (0.000)

Year 2 8.127% (0.000) 1.758% (0.000) 0.013% (0.465) 8.114% (0.000)

Year 3 4.812% (0.000) 0.792% (0.089) -0.213% (0.505) 5.025% (0.000)

15039

Neutral

3780

Net selling

Net buying - Net selling

30

Table 4: Summary statistics of firm characteristics classified by repurchase and insider trading activity
This table presents means and standard deviations (in parentheses) of the intersection of insider transactions and firm-level share repurchases for a pooled time series cross-section of firms from the period 1988 to mid-2007. G-index is the Gompers, Ishii, and Metrick (2003) corporate governance index. Larger values indicate more lenient governance. There are far fewer observations for this variable due to its limited availability. Options is the total dollar value of options exercised (the number of shares times the stock price on the day of exercise) divided by the stocks market capitalization at the start of the period. Net M/B is the ratio of market capitalization to the book value of common equity of the firm minus the industry median market to book ratio for that calendar quarter. Lagged returns are the buy and hold stock returns for the prior quarter minus the value-weighted returns on the market during the same time period. Market capitalization is defined as market capitalization in millions and size deciles are calculated each calendar quarter. Cash is cash and short-term investments, scaled by total assets. Leverage is total liabilities scaled by total assets. All variables are winsorized at the 1% and 99% level.

Panel A: Insider trading categories based on trades by all insiders

Repurchases 1% Net Neutral buying 9.0355 8.8608 (2.7688) 0.0003 (0.002) 1.0362 (4.2993) -0.0030 (0.2904) 1427.2 (10138) 0.1786 (0.2272) 0.4656 (0.2302) 137,000 29,319 (2.7901) 0.0006 (0.0027) 0.62 (3.8408) -0.039 (0.2856) 335.89 (2144.1) 0.1658 (0.2264) 0.48 (0.2285) 35,225 5,933 Repurchasing > 1% Net Neutral buying 9.167 8.921 (2.6897) 0.0004 (0.0023) 0.4263 (3.1962) -0.042 (0.2059) 3341.8 (15936) 0.1584 (0.1885) 0.4606 (0.213) 9,384 3,965 (2.763) 0.0006 (0.0028) 0.1106 (2.7719) -0.086 (0.2261) 665.67 (2930.3) 0.1532 (0.1916) 0.4556 (0.2162) 3,082 1,063

G-Index Options Net M/B Lagged returns Market capitalization Cash Leverage

Net selling 8.9685 (2.7202) 0.0024 (0.0048) 1.7218 (4.3771) 0.0657 (0.2899) 2440.5 (12944) 0.2041 (0.231) 0.4328 (0.2168)

All 8.9894 (2.7499) 0.001 (0.0034) 1.1955 (4.2807) 0.014 (0.292) 1596 (10491) 0.1849 (0.2287) 0.4572 (0.2265) 252,000 63,256

Net selling 9.2012 (2.5722) 0.0022 (0.0044) 1.1334 (3.4605) 0.0112 (0.2) 5070.1 (19004) 0.1719 (0.1903) 0.4623 (0.2048) 7,661 4,656

All 9.1564 (2.6432) 0.0011 (0.0034) 0.6471 (3.264) -0.029 (0.2098) 3589.9 (16104) 0.1628 (0.1898) 0.4605 (0.2104) 20,127 9,684

Number of observations (Full sample) Number of observations (G-Index sample)

79,900 28,004

31

Panel B: Insider trading categories based on trades by top insiders

Repurchases 1% Net Neutral buying 9.0568 8.7966 (2.759) 0.0006 (0.0025) 1.0586 (4.2009) 0.0049 (0.2879) 1462.1 (9820.1) 0.18 (0.2271) 0.4627 (0.2281) 46702 195000 (2.7652) 0.0006 (0.0028) 0.6185 (4.0231) -0.051 (0.2912) 291.49 (1867.6) 0.1569 (0.2185) 0.489 (0.2291) 2680 17051 Repurchasing >1% Net Neutral buying 9.2073 8.927 (2.6479) 0.0007 (0.0027) 0.5249 (3.2389) -0.036 (0.2058) 3386.3 (15528) 0.1595 (0.1884) 0.4611 (0.2122) 6844 14805 (2.7827) 0.0008 (0.0033) 0.0154 (2.3039) -0.082 (0.2407) 525.49 (1951.9) 0.1517 (0.1924) 0.4582 (0.2156) 507 1595

G-Index Options Net M/B Lagged returns Market capitalization Cash Leverage

Net selling 8.7998 (2.7055) 0.0033 (0.0056) 2.114 (4.6344) 0.0862 (0.2992) 2812 (14840) 0.221 (0.2368) 0.4169 (0.2121)

All 8.9894 (2.7499) 0.001 (0.0034) 1.1955 (4.2807) 0.014 (0.292) 1596 (10491) 0.1849 (0.2287) 0.4572 (0.2265) 252,000 63,256

Net selling 9.057 (2.5937) 0.0031 (0.0051) 1.4028 (3.5768) 0.0237 (0.2016) 5710 (20796) 0.1806 (0.1932) 0.459 (0.2008) 2333 3727

All 8.9894 (2.7499) 0.0011 (0.0034) 0.6471 (3.264) -0.029 (0.2098) 3589.9 (16104) 0.1628 (0.1898) 0.4605 (0.2104) 20,127 9,684

Number of observations (Full sample) Number of observations (G-Index sample)

13874 39782

32

Table 5: Multinomial logit coefficients

This table presents coefficients from multinomial logit regressions that examine the intersection of insider transactions and non-trivial share repurchases, where the base case is repurchasing and net insider selling. Insider trading variables in Panels A and B are based on trades made by all insiders, while Panels C and D used only trades made by top executives. Results in Panels A and C are for our full sample of firms. Panels B and D are based on the subset of firms for which data on the Gompers, Ishii, and Metrick (2003) corporate governance index is available. Ln(G-index) is the natural log of the corporate governance index, for which larger values indicate more lenient governance. Options is the total dollar value of options exercised (the number of shares times the stock price on the day of exercise) divided by the stocks market capitalization at the start of the period. Net M/B is the ratio of market capitalization to the book value of common equity of the firm minus the industry median market to book ratio for that calendar quarter. Lagged returns are the buy and hold stock returns for the prior quarter minus the value-weighted returns on the market during the same time period. When Size is defined as market capitalization and deciles are calculated each calendar quarter. Cash is cash and short-term investments, scaled by total assets. Leverage is total liabilities scaled by total assets. Year dummies are included in all models, and standard errors are clustered at the firm level. *, **, and *** indicate significance at the 10%, 5%, and 1% level, respectively.

33

Panel A: Full sample with outcomes for net insider trading based all insider trades
Repurchases < 1% Options Net M/B Lagged returns Size decile Cash Leverage Constant Number of observations Adjusted R2 Net selling -10.427*** (-3.510) 0.046*** (6.071) 0.664*** (14.629) -0.155*** (-14.817) 0.225* (1.826) -0.300** (-2.386) 2.630*** (21.812) Neutral -258.389*** (-35.758) 0.030*** (3.860) 0.115** (2.531) -0.362*** (-32.337) 0.258** (1.986) 0.538*** (4.062) 3.815*** (30.448) Net buying -136.427*** (-28.911) 0.007 (0.912) -0.253*** (-5.106) -0.432*** (-37.784) 0.193 (1.381) 0.938*** (6.742) 2.096*** (14.343) 272,383 0.091 Repurchases 1% Neutral -214.002*** (-13.420) -0.049*** (-4.705) -0.436*** (-7.462) -0.171*** (-15.842) -0.109 (-0.833) 0.079 (0.588) 0.281* (1.655) Net buying -122.359*** (-11.359) -0.080*** (-5.018) -0.907*** (-10.077) -0.268*** (-21.859) -0.356** (-2.059) 0.054 (0.308) -0.882*** (-2.856)

34

Panel B: Sub-sample with G-Index with outcomes for net insider trading based on all insider trades
Repurchases < 1% ln(G-Index) Options Net M/B Lagged returns Size decile Cash Leverage Constant Number of observations Adjusted R2 Net selling -0.271** (-2.430) -19.544*** (-3.750) 0.009 (1.136) 0.878*** (10.715) -0.203*** (-8.694) -0.197 (-0.927) 0.038 (0.194) 4.231*** (11.790) Neutral -0.213* (-1.743) -706.146*** (-16.552) -0.032*** (-3.363) -0.010 (-0.120) -0.399*** (-15.831) -0.272 (-1.173) 1.091*** (5.195) 6.269*** (16.582) Net buying -0.253* (-1.764) -337.859*** (-11.222) -0.036*** (-2.967) -0.827*** (-7.502) -0.651*** (-24.367) -0.635** (-2.244) 1.356*** (5.560) 7.032*** (16.954) 72,781 0.112 Repurchases 1% Neutral -0.036 (-0.329) -673.707*** (-8.128) -0.012 (-1.225) -0.873*** (-7.827) -0.184*** (-7.736) -0.302 (-1.341) 0.107 (0.548) 2.963*** (7.812) Net buying -0.096 (-0.620) -325.963*** (-6.361) -0.033* (-1.784) -2.147*** (-10.878) -0.467*** (-16.031) -0.708** (-2.088) 0.056 (0.202) 4.421*** (9.130)

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Panel C: Full sample with outcomes for net insider trading based on top insider trades
Repurchases < 1% Options Net M/B Lagged returns Size decile Cash Leverage Constant Number of observations Adjusted R2 Net selling -13.381*** (-4.205) 0.043*** (5.760) 0.702*** (11.404) -0.145*** (-10.272) 0.212 (1.263) -0.577*** (-3.649) 2.640*** (16.187) Neutral -177.311*** (-44.021) 0.013 (1.639) 0.097 (1.585) -0.364*** (-24.370) 0.173 (0.992) 0.558*** (3.438) 4.935*** (30.009) Net buying -145.243*** (-27.786) -0.004 (-0.438) -0.435*** (-6.365) -0.491*** (-31.445) -0.072 (-0.379) 1.117*** (6.286) 2.393*** (12.070) 272,383 0.094 Repurchases 1% Neutral -153.504*** (-23.013) -0.057*** (-5.530) -0.501*** (-7.315) -0.178*** (-12.866) -0.199 (-1.194) 0.158 (1.009) 1.852*** (10.626) Net buying -119.798*** (-10.649) -0.117*** (-5.918) -0.812*** (-6.780) -0.314*** (-17.861) -0.400 (-1.602) 0.252 (1.045) -1.462** (-2.410)

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Panel D: Sub-sample with G-Index with outcomes for net insider trading based on top insider trades
Repurchases < 1% ln(G-Index) Options Net M/B Lagged returns Size decile Cash Leverage Constant Number of observations Adjusted R2 Net selling -0.248* (-1.678) -18.877*** (-3.744) 0.018** (2.109) 0.867*** (7.584) -0.197*** (-6.664) -0.217 (-0.788) -0.189 (-0.798) 4.220*** (8.642) Neutral -0.044 (-0.277) -348.633*** (-22.346) -0.028*** (-2.859) -0.113 (-1.019) -0.467*** (-14.760) -0.622** (-2.108) 1.142*** (4.666) 7.939*** (15.551) Net buying -0.136 (-0.716) -279.586*** (-10.526) -0.035** (-2.209) -1.082*** (-6.777) -0.742*** (-21.221) -1.045*** (-2.888) 1.540*** (5.021) 7.648*** (13.249) 72,781 0.109 Repurchases 1% Neutral 0.163 (1.151) -300.254*** (-13.413) -0.013 (-1.313) -1.049*** (-8.405) -0.261*** (-9.047) -0.593** (-2.191) 0.341 (1.534) 4.519*** (9.365) Net buying 0.045 (0.196) -221.491*** (-4.977) -0.058** (-2.399) -2.247*** (-9.027) -0.545*** (-13.371) -1.032** (-2.148) 0.503 (1.275) 4.696*** (6.775)

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Table 6: Marginal effects of multinomial logits

This table presents marginal effects from multinomial logit regressions that examine the intersection of non-trivial share repurchases and insider transactions, based on trades made by all insiders. Results in Panel A use the full sample and results in Panel B are based on the subset of firms for which data on the Gompers, Ishii, and Metrick (2003) corporate governance index is available. Ln(G-index) is the natural log of the corporate governance index, for which larger values indicate more lenient governance. Options is the total dollar value of options exercised (the number of shares times the stock price on the day of exercise) divided by the stocks market capitalization at the start of the period. Net M/B is the ratio of market capitalization to the book value of common equity of the firm minus the industry median market to book ratio for that calendar quarter. Lagged returns are the buy and hold stock returns for the prior quarter minus the valueweighted returns on the market during the same time period. When Size is defined as market capitalization and deciles are calculated each calendar quarter. Cash is cash and short-term investments, scaled by total assets. Leverage is total liabilities scaled by total assets. Year dummies are included in all models, and standard errors are clustered at the firm level.

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Panel A: Full Sample

Repurchases < 1% Net selling Variable Options Net M/B Lagged returns Size decile Cash Leverage Marginal Effect 43.7943 0.0053 0.1340 0.0409 0.0021 -0.1774 z-stat 37.60 11.79 37.42 49.70 0.20 -16.13 /2 0.1468 0.0223 0.0384 0.1164 0.0005 -0.0400 Marginal Effect -49.4389 0.0013 -0.0416 -0.0335 0.0210 0.1132 Neutral z-stat -31.49 2.48 -10.99 -36.07 1.81 9.25 /2 -0.1655 0.0057 -0.0119 -0.0954 0.0048 0.0255 Marginal Effect 3.6017 -0.0027 -0.0586 -0.0176 -0.0032 0.0807 Net buying z-stat 6.80 -7.98 -22.02 -36.19 -0.45 11.86 /2 0.0118 -0.0112 -0.0168 -0.0502 -0.0007 0.0182

Repurchases 1% Net selling Variable Options Net M/B Lagged returns Size decile Cash Leverage Marginal Effect 3.2326 -0.0006 -0.0038 0.0059 -0.0043 -0.0063 z-stat 25.01 -3.82 -4.45 31.11 -1.78 -2.61 /2 0.0109 -0.0023 -0.0011 0.0172 -0.0010 -0.0014 Marginal Effect -1.5729 -0.0024 -0.0198 0.0040 -0.0103 -0.0076 Neutral z-stat -3.45 -6.81 -14.25 17.63 -3.31 -2.36 /2 -0.0053 -0.0102 -0.0057 0.0114 -0.0023 -0.0017 Marginal Effect 0.3833 -0.0010 -0.0102 0.0003 -0.0053 -0.0025 Net buying z-stat 3.90 -6.98 -13.45 3.47 -3.83 -1.77 /2 0.0013 -0.0042 -0.0029 0.0008 -0.0012 -0.0006

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Panel B: Sub-sample with G-Index

Repurchases < 1% Net selling Variable G-index Options Net M/B Lagged returns Size decile Cash Leverage Marginal Effect -0.0228 136.4156 0.0091 0.2735 0.0422 0.0260 -0.2151 z-stat -1.67 17.33 6.46 24.45 15.71 0.86 -7.84 /2 -0.0077 0.3553 0.0319 0.0549 0.0747 0.0043 -0.0425 Marginal Effect 0.0025 -139.2337 -0.0077 -0.1001 -0.0372 -0.0061 0.2088 Neutral z-stat 0.19 -16.57 -5.64 -9.62 -14.63 -0.22 8.33 /2 0.0008 -0.3636 -0.0271 -0.0200 -0.0655 -0.0010 0.0412 Marginal Effect -0.0024 -0.8496 -0.0018 -0.0798 -0.0259 -0.0278 0.0611 Net buying z-stat -0.410 -0.430 -2.910 -14.000 -24.920 -2.160 5.790 /2 -0.0008 -0.0017 -0.0063 -0.0160 -0.0464 -0.0047 0.0121

Repurchases 1% Net selling Variable G-index Options Net M/B Lagged returns Size decile Cash Leverage Marginal Effect 0.0130 19.3274 0.0007 -0.0156 0.0176 0.0151 -0.0309 z-stat 2.11 15.10 1.54 -3.49 13.95 1.31 -2.91 /2 0.0044 0.0505 0.0024 -0.0031 0.0315 0.0025 -0.0061 Marginal Effect 0.0083 -15.6630 0.0000 -0.0512 0.0051 -0.0021 -0.0187 Neutral z-stat 2.17 -5.95 -0.05 -10.43 6.37 -0.26 -2.56 /2 0.0028 -0.0406 -0.0001 -0.0103 0.0091 -0.0004 -0.0037 Marginal Effect 0.0014 0.0033 -0.0002 -0.0269 -0.0019 -0.0050 -0.0052 Net buying z-stat 0.97 0.01 -1.09 -12.26 -7.00 -1.47 -1.90 /2 0.0005 0.0001 -0.0008 -0.0054 -0.0033 -0.0008 -0.0010

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Table 7: Insider trading OLS regressions

This table presents results from OLS regressions explaining insider trading activity. The dependent variable equals the dollar value of insider sales minus the dollar value of insider purchases, scaled by market cap. This measure is expressed as a percentage and is winsorized at the 1% and 99% levels. Repurchase dummy (Lagged repurchase dummy) equals one if the firms repurchased at least 1% of shares outstanding during the quarter for which insider selling was measured (during the prior quarter). Repurchases (Lagged repurchases) is a continuous variable that measures the percentage of shares outstanding repurchased during the quarter for which insider selling was measured (during the prior quarter). Ln(G-index) is the natural log of the corporate governance index, for which larger values indicate more lenient governance. Options is the total dollar value of options exercised (the number of shares times the stock price on the day of exercise) divided by the stocks market capitalization at the start of the period. Net M/B is the ratio of market capitalization to the book value of common equity of the firm minus the industry median market to book ratio for that calendar quarter. Lagged returns are the buy and hold stock returns for the prior quarter minus the value-weighted returns on the market during the same time period. When Size is defined as market capitalization and deciles are calculated each calendar quarter. Year dummies are included in all models, and standard errors are clustered at the firm level. *, **, and *** indicate significance at the 10%, 5%, and 1% level, respectively. All insiders Lagged repurchasing dummy Repurchasing dummy Lagged repurchases Repurchases Options Net M/B Lagged returns Size decile Constant Number of observations Adjusted R2 75.695*** (54.386) 0.008*** (11.604) 0.207*** (27.528) 0.010*** (11.148) 0.033** (2.130) 270,957 0.099 -0.056*** (-10.440) 0.021*** (3.048) -0.009*** (-7.624) 0.041*** (10.705) 75.584*** (54.227) 0.008*** (12.207) 0.213*** (28.143) 0.008*** (9.301) 0.024 (1.574) 270,957 0.100 27.066*** (50.472) 0.002*** (11.398) 0.061*** (24.980) 0.004*** (13.262) 0.008* (1.720) 270,957 0.125 Top insiders -0.007*** (-3.918) -0.009*** (-4.323) -0.001*** (-3.803) 0.001 (0.551) 27.057*** (50.422) 0.002*** (11.585) 0.061*** (25.214) 0.004*** (12.602) 0.007 (1.520) 270,957 0.124

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