Stock Performance and Insider Trading in Completed and Canceled Private Placements

• Date: 01 February 2019
• DOI: http://doi.org/10.1111/ajfs.12247
• Author: Ting‐Wen Wu,Kung‐Chi Chen,Lee‐Young Cheng,Yan Zhao
• Published date: 01 February 2019

Stock Performance and Insider Trading in

Completed and Canceled Private

Placements

Kung-Chi Chen

Department of Finance, National Chung Cheng University, Taiwan

Lee-Young Cheng

Department of Finance, National Chung Cheng University, Taiwan

Ting-Wen Wu

Department of Finance, National Chung Cheng University, Taiwan

Yan Zhao*

Department of Economics and Business, City College of New York, CUNY, United States

Received 28 November 2017; Accepted 20 November 2018

Abstract

This paper examines the impact of insider trading on completed and canceled private equity

offerings. We find that insider trading has no impact on firms’ decisions to complete or can-

cel offerings, but it has a positive impact on the long-run stock performance of the issuing

firms. Firms complete the undervalued offerings and cancel the offerings when they no longer

perceive their shares are undervalued. Firms with weaker operating performance are more

likely to complete private placements because they regard private offering as the last resort

for raising equity capital. Firms that complete private placements have significantly better

long-term stock performance than firms that cancel private placements.

Keywords Private equity placements; Insider trading; Long-run stock performance

JEL Classification: G32

1. Introduction

In private placements, firms issue concentrated blocks of equity to well-informed,

sophisticated investors. In this paper, we examine the impact of insider trading on

firms’ decisions to complete or cancel private placement offerings, and the long-run

stock performance of the issuing firms.

*Corresponding author: Department of Economics and Business, City College of New York,

CUNY, 160 Convent Ave, New York, NY 10031, United States. Tel: +1-201-650-6209, Fax:

+1-212-650-6341, email: yzhao2@ccny.cuny.edu.

Asia-Pacific Journal of Financial Studies (2019) 48, 123–146 doi:10.1111/ajfs.12247

©2019 Korean Securities Association 123

Prior literature provides two hypotheses on insider trading prior to raising equi-

ties externally. Wei and Huang (2015) propose the self-dealing hypothesis by exam-

ining private placements in Taiwan during the period 2005 to 2010. They find that

insiders are incentivized to self-deal by depressing pre-issue stock prices in the ref-

erence period so that they can purchase shares at a greatly discounted offering price

at the private placement. In the windows of opportunity hypothesis advanced by

Loughran and Ritter (1995), firms time the seasoned equity offerings (SEOs) to

coincide with windows of opportunity, or periods of overvaluation. If insiders take

advantage of windows of opportunity in selling new shares through SEOs, they also

sell on their own accounts to profit from this information. Clarke et al. (2001) find

that abnormal insider selling increases prior-to-completed SEOs and is negatively

related to post-SEO returns. They further show that insider trading is the key deter-

ment of the decision to complete or cancel the SEOs.

To study the impact of insider trading on private equity placements, we exam-

ine the impact of insider trading on firms’ decisions to complete or cancel private

placement offerings, and the long-run stock performance of the issuing firms.

While completed private placements have been examined extensively in the litera-

ture, no research has yet attempted to examine canceled private placements. This is

because there are no regulations requiring firms to disclose their cancelation deci-

sions to the public in the US. However, in Taiwan, when a firm cancels a planned

offering, the firm is required to disclose it to the public through the Market Obser-

vation Post System within two days, starting from the date of the resolution of the

board meeting. These features make Taiwan’s stock market a unique opportunity

to study private equity placements. This paper aims to close the gap in the litera-

ture by investigating canceled private equity placements in the Taiwan Stock

Exchange.

Analyzing canceled private equity offerings allows us to observe situations in

which managers may signal that their shares are undervalued at the initial private

offering announcement time, but the subsequent performance of the firm is no

longer undervalued. Insider trading patterns should help to predict private equity

cancellation. If insiders complete offers that remain underpriced after the initial

announcement, the insider trading pattern should be related to the probability of

cancelation. We thus may provide future evidence on the managerial motives for

raising private equity in both completed and canceled private equity placements.

Building on Clarke et al. (2001), insider trading patterns should help to predict

future returns. If issuers cancel private equity offerings when shares are no longer

undervalued, the long-run post-cancelation returns should be worse than the long-

run post-completion returns. In addition, when abnormal insider purchases are

high, insiders’ personal interest is aligned with the firm’s interest; therefore, they

are more determined and more willing to put effort into turning around the firm.

Therefore, firms with higher insider abnormal purchases should yield better post-

announcement stock performance. This prediction should be true for both com-

pleted and canceled offerings.

K.-C. Chen et al.

124 ©2019 Korean Securities Association