The Governance Effect of the Media's News Dissemination Role: Evidence from Insider Trading

• Author: BOHUI ZHANG,JERRY T. PARWADA,LILI DAI
• DOI: http://doi.org/10.1111/1475-679X.12073
• Date: 01 May 2015
• Published date: 01 May 2015

DOI: 10.1111/1475-679X.12073

Journal of Accounting Research

Vol. 53 No. 2 May 2015

Printed in U.S.A.

The Governance Effect of the

Media’s News Dissemination Role:

Evidence from Insider Trading

LILI DAI,

∗JERRY T. PARWADA,

†AND BOHUI ZHANG

†

Received 5 January 2014; accepted 13 January 2015

ABSTRACT

We investigate whether the media plays a role in corporate governance by

disseminating news. Using a comprehensive data set of corporate and insider

news coverage for the 2001–2012 period, we show that the media reduces in-

siders’ future trading profits by disseminating news on prior insiders’ trades

available from regulatory filings. We find support for three economic mecha-

nisms underlying the disciplining effect of news dissemination: the reduction

of information asymmetry, concerns regarding litigation risk, and the impact

∗ANU College of Business and Economics, Australian National University; †School of Bank-

ing and Finance, UNSW, Australia.

Accepted by Douglas Skinner. We thank an anonymous referee, Ren´

ee Adams, Sudipta

Basu, Oleg Chuprinin, David Feldman, Neal Galpin, Ian Gow, Mark Greenblatt, Wayne

Guay, Rebecca Hann, Jonathan Karpoff, Lawrence Kryzanowski, Mark Lang, Christian Leuz,

Ningzhong Li, Ronald Masulis, Greg Miller, Peter Pham, Richard Roll, Jianfeng Shen, Ahmed

Tahoun, Dan Taylor, Irem Tuna, Terry Walter, Ivo Welch, Sarah Zechman, and Qiaoqiao

Zhu. We thank seminar participants at the Australian National University, UCLA, the Uni-

versity of Miami, UNSW Australia, and the University of Washington. We also thank par-

ticipants at the 2014 Journal of Accounting Research Conference, Chicago; the 2014 Euro-

pean Financial Management Annual Meetings, Rome; the 2014 World Finance Conference,

Venice; the 2013 Northern Finance Association Conference, Quebec City; the 2013 FIRN

Conference, Hunter Valley; the 2013 Behavioural Finance and Capital Markets Conference,

Adelaide; and the 2013 RSFAS Research Summer Camp, Batemans Bay, for providing many

helpful comments and suggestions. An online appendix to this paper can be downloaded at

http://research.chicagobooth.edu/arc/journal/onlineappendices.aspx.

331

Copyright C, University of Chicago on behalf of the Accounting Research Center,2015

332 L.DAI,J.T.PARWADA,AND B.ZHANG

on insiders’ personal wealth and reputation. Our findings provide new in-

sights into the real effect of news dissemination.

JEL codes: G32; G34; J33; M41

Keywords: media; information dissemination; corporate governance; in-

sider trading

1. Introduction

That the media plays a role in corporate governance is well known.1What is

less clear is how the governance effect of the media works. Existing evidence

supports the notion that the media disciplines managers by creating con-

tent that exposes governance problems (Miller [2006], Dyck, Volchkova,

and Zingales [2008]). We use evidence from a large sample of insider trad-

ing filings to investigate whether the media’s news dissemination role di-

rectly affects governance.

The SEC requires insiders to report their trading activities on Form 4

filings, which are typically disseminated through the media.2This setting

provides us with a useful opportunity to examine the effect of the media’s

dissemination role on corporate governance, and specifically in restricting

insiders’ trading profits. Since news dissemination increases the breadth

of coverage and the attention of investors through repetition (Fang and

Peress [2009], Bushee et al. [2010], Blankespoor, Miller, and White [2014],

Peress [2014]), we conjecture that the media reduces the profitability of

insiders’ future transactions by disseminating regulatory releases of prior

insider trading activities. We call this view, which forms our main hypothe-

sis, disciplining via dissemination.

Our main hypothesis is based on three mechanisms. First, by disseminat-

ing news on prior insider trades, insiders’ information advantage is reduced

and prices adjust more quickly to the news (Bushee et al. [2010], Tetlock

[2010]), directly reducing the profitability of future insiders’ trades. We

refer to this attenuation effect of the media on insiders’ profits as the in-

formation asymmetry channel. Second, recent studies show that litigation can

restrict and punish insiders’ opportunistic behavior, especially their selling

activities (Cheng, Huang, and Li [2013], Billings and Cedergren [2015]).

Therefore, because of concerns regarding litigation risk, insiders in firms in

the media spotlight avoid opportunistic trading strategies and thereby earn

1See, for example, Dyck and Zingales [2002], Miller [2006], Core, Guay, and Larcker

[2008], Dyck, Volchkova, and Zingales [2008], Joe, Louis, and Robinson [2009], Dyck, Morse,

and Zingales [2010], Kuhnen and Niessen [2012], and Liu and McConnell [2013].

2Regarding the typical financial press coverage of insider trades, see, for example, “Lock-

Up Expires for LinkedIn Shares, and Insiders Cash In,” New York Times, November 22, 2011.

Moreover, numerous Websites are dedicated to insiders’ trading activities gleaned from SEC

filings, for example, www.secform4.com and www.insiderslab.com.Stories featuring data from

such Web sites frequently appear in prominent newspapers and business magazines.

GOVERNANCE EFFECT OF THE MEDIA’S NEWS DISSEMINATION ROLE 333

reduced profits. We refer to this effect of news coverage as the litigation

risk channel. Third, since the dissemination of insider trading news can ad-

versely affect executives’ personal wealth and reputation (Dyck, Volchkova,

and Zingales [2008]), we expect that the disciplining effect of news is more

pronounced when executives have a greater amount of personal capital

tied to firms. We refer to this mechanism as the capital-at-risk channel.

We examine our hypotheses using more than 1.375 million trades by U.S.

corporate insiders from Thomson Reuters.3Corporate news coverage data

from RavenPack provide us with the number of Dow Jones news releases

that are associated with the insiders’ firms. Following Jagolinzer, Larcker,

and Taylor [2011], we compute insiders’ profits as the alpha earned during

the 180-day window after an insider’s buy or sell transaction. We investigate

whether insiders consistently earn future abnormal profits when they face

news coverage on their prior trades. Our examination is similar to recent

studies of corporate activities conditional on prior media coverage (e.g.,

Core, Guay, and Larcker [2008], Kuhnen and Niessen [2012] on executive

compensation; Braggion and Giannetti [2013] on limited voting shares).

Consistent with our disciplining via dissemination hypothesis, we find a negative

association between insiders’ future trading profits and news coverage of

regulatory releases of insiders’ prior trading activities.

Next, we find evidence suggesting that our disciplining via dissemination

hypothesis operates through three economic channels, namely, information

asymmetry,litigation risk,andcapital-at-risk. First, we show that news cover-

age is more effective in attenuating insiders’ profits in firms with higher

analyst forecast dispersion and in firms that are not audited by Big N au-

ditors. Second, we adopt Kim and Skinner’s [2012] litigation risk measure

and find that the effect of news coverage is more pronounced in firms that

face higher litigation risk. Finally, we find that the relation between insid-

ers’ trading profits and news coverage is magnified when insiders’ personal

capital, proxied by executives’ equity-based compensation and the strength

of firms’ corporate social responsibility (Gao, Lisic, and Zhang [2014]), is

more closely tied to firms.

In additional tests, we provide evidence in support of our main find-

ings. First, the negative effect of news coverage on insiders’ trading prof-

its operates by reducing trading profits instead of increasing trading losses.

Second, to rule out the possibility that the media engages in information

creation rather than mere news dissemination, we show that initial news

3Following the literature, we examine legal insider trading that is disclosed to the

SEC. We discuss the regulation of insider trades in detail in the online appendix

(an online appendix to this paper can be downloaded at http://research.chicagobooth.

edu/arc/journal/onlineappendices.aspx.). The profitability of insider trades is one of the

most tangible signs of poor corporate governance (Aboody and Lev [2000], Frankel and Li

[2004], Piotroski and Roulstone [2005], Huddart, Ke, and Shi [2007], Ravina and Sapienza

[2010], Jagolinzer, Larcker, and Taylor [2011], Cohen, Malloy, and Pomorski [2012], Dai

et al. [2014], Cziraki, De Goeij, and Renneboog [2014]).