Big Drop in Insider Sales May Augur a Takeover
Trying to check out that takeover rumor? Look at the trading activity of corporate insiders.
No, you shouldn’t be looking for a surge of buying among senior executives snapping up shares of their company on knowledge of a coming lucrative takeover announcement. That kind of buying is illegal. Look instead for a big drop in insider selling.
That’s right. Insiders who know a bid is percolating usually want to hold on to their shares in anticipation of a premium offer price from the prospective bidder.
Monday’s announcement that British-based Grand Metropolitan PLC will acquire Pet Inc. for $2.6 billion in a friendly tender offer is a case in point. The St. Louis specialty-foods company, whose stock soared $5.37 1/2 a share, or 27 percent, in New York Stock Exchange composite trading Monday, had been a rumored takeover candidate for months.
A review of the company’s insider filings with the Securities and Exchange Commission shows that regular insider selling at Pet had all but dried up in the months prior to Monday’s announcement. In 1992, Pet insiders sold a total of 87,319 shares, and in 1993 they sold 66,340 shares. Last year they sold only 850 shares.
Savvy observers already had taken note of the sharp decline in insider selling. Bob Gabele, president of CDA-Investnet in Fort Lauderdale, Fla., flagged the dropoff in insider selling at Pet in a Dec. 30 newsletter: ``Our feeling at this time is that the level of insider selling in Pet is abnormally low when compared to past years . . . there is nothing in the insider picture to throw water on the speculation that some kind of deal may be pending.″
If expectations of regular insider selling have been built up and then fail to materialize over an extended period, pay close attention to the takeover talk, Mr. Gabele says. ``We’ve been aware for some time that the absence of insider activity data can tell a story,″ he adds.
But he also cautions that inside trading shouldn’t be the only tool used to dissect the likelihood of a deal. ``We wouldn’t be running out to buy a stock simply because the insiders aren’t selling _ it’s just one indicator to help assess the rumors.″
Mr. Gabele, whose firm specializes in analyzing insider trends, says there have been other recent cases _ similar to that of Pet _ where a drop-off in insider selling at the target company presaged a bid. ITT Corp. said Dec. 19 that it will buy gambling giant Caesars World Inc. for $67.50 a share, or $1.7 billion, in a friendly tender offer. Caesars, as reported, had been a takeover target for months.
SEC data show that insider selling at Caesars fell off last year as the stock rose. In 1994, only 3,300 shares were sold by insiders, well below the 64,000 sold on average during the previous three years. In 1993, for example, some 46,500 shares were unloaded.
Another example is the takeover by Swiss company Sandoz Ltd. of Gerber Products Co. in a $3.67 billion cash acquisition last year. Average insider sales at Gerber _ going back to 1986 _ were some 67,000 shares a year: in 1994, sales totaled just 3,480 shares.
Insider activity can also be useful in quashing unsubstantiated market rumors about takeovers. As Mr. Gabele explains, when rumors abound about a particular takeover candidate but senior insiders continue to dump shares, the likelihood of a bid materializing is fairly slim. He cites recent cases of insider selling scotching takeover talk at Warner-Lambert Co., McGraw-Hill Inc., Value Health Inc. and Beverly Enterprises Inc.
Academic studies seem to confirm the usefulness of insider data as a diagnostic tool in divining mergers and acquisitions. A recent unpublished working paper by Carr Bettis and William A. Duncan, assistant professor and associate professor, respectively, at Arizona State University’s School of Management, shows a clear drop-off in insider selling activity up to several months before a friendly deal is disclosed.
The results of the study, ``Insider Trading Before Takeovers: New Evidence,″ are, according to Mr. Bettis, ``consistent with a conclusion that legal sanctions deter corporate insider trading during the last months before takeovers.″ The results also show that insider selling typically drops off some three months ahead of any announcement of either a takeover or of talks about a takeover. Insider buying activity tends to taper off at a later date, according to the study, which reviewed more than 200 mergers over five years.
Mr. Bettis cautions that it is helpful to track both the average annual volume of trades and the average number of trades in building expectations of insider activity. Other caveats: ``In many cases there is simply not enough data to establish an expectation about the level of trading. Sometimes, the takeover process is very quick, and so insiders may have traded recently. But they themselves were uninformed and so had no reason to abstain from trading. Sometimes insiders may decide to take the legal risk and trade anyway, especially when selling.″
Nevertheless, ``on average, insiders appear to be sensitive to the legal constraints before takeovers and they refrain from trading. They also have a financial incentive not to sell if they expect a bid to materialize. Both factors come into play. Who is going to punish them if they’ve hurt themselves by selling too early?″
On a final note, Mr. Bettis says that on the day of public disclosure of a deal, ``insiders cash out _ they sell abnormally large numbers of shares on the news.″