{"id":3089,"date":"2011-11-17T14:09:17","date_gmt":"2011-11-17T19:09:17","guid":{"rendered":"http:\/\/www.vanderbilt.edu\/magazines\/vanderbilt-business\/?p=3089"},"modified":"2015-07-07T20:18:52","modified_gmt":"2015-07-07T20:18:52","slug":"insider-insight","status":"publish","type":"post","link":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/insider-insight\/","title":{"rendered":"Insider Insight"},"content":{"rendered":"

Enron. WorldCom. Tyco. These are among the most notorious names associated with a wave of accounting scandals that plagued the early 2000s and ultimately helped spur passage of the 2002 accounting reform law known as Sarbanes-Oxley.<\/p>\n

While accounting restatements haven\u2019t gone away entirely since then\u2014there were 735 last year, down from a peak of 1,795 in 2006, according to Audit Analytics\u2014they don\u2019t always result in cataclysmic failure. In fact, the market can learn much about the future fate of a company based on the buying or selling of stock by the firm and its managers preceding an accounting restatement.<\/p>\n

\"Research
Research by Nicole Thorne Jenkins suggests that insider trading that occurs before an accounting restatement can reveal a lot about a company\u2019s future performance.<\/figcaption><\/figure>\n

That\u2019s according to new research from Nicole Thorne Jenkins, Associate Professor of Accounting, and co-authors Brad Badertscher of the University of Notre Dame and Paul Hribar of the University of Iowa. Their paper was published in The Accounting Review<\/em> in September 2011.<\/p>\n

\u201cWe predict and find evidence that when a firm restates its financial statements, the market uses the magnitude and direction of prior insider and corporate trades to help price the implications of the restatement,\u201d the authors wrote.<\/p>\n

Typically when a company issues an accounting restatement, it suffers an average loss of 10 percent in market value. That figure climbs to 20 percent or greater for firms whose restatements have been caused by \u201cirregularities.\u201d More than half the cases of restatements in the authors\u2019 data occurred because of an issue with revenue recognition. Nearly 30 percent were due to things such as improperly recognizing expenses or wrongly capitalizing expenditures.<\/p>\n

In the short run at least, Jenkins and her colleagues found that the negative impact of a restatement is softened \u201cwhen there are net stock repurchases or insider purchases.\u201d The opposite is also true\u2014losses worsen\u2014when \u201cthere are net equity issuances or insider selling,\u201d they wrote.<\/p>\n

The authors take the study a step further by demonstrating that the market is in fact using a company\u2019s insider buying or selling behavior as a signal for how to price the restatement event. The positive (and negative) effect of buying (or selling) on share price is only found for those trades which have been disclosed publicly.<\/p>\n

Preceding a restatement, \u201cselling suggests more nefarious behavior on the part of management, and is likely to increase the information risk premium \u2026 while prior buying might help mitigate the uncertainty facing investors,\u201d the authors wrote.<\/p>\n

This study offers a \u201cdirectional\u201d hypothesis, rather than trying to determine the exact magnitude of the effect. In addition, where other research looks for reasons behind accounting restatements\u2014fraud, for example\u2014the authors here look only at how the market acts on public information about the buying or selling actions of management and the company.<\/p>\n

Ultimately, the authors conclude, the evidence in this study \u201csuggests that the market begins to look for corroborating or contradicting evidence regarding the future performance of the firm once the restatement is announced.\u201d<\/p>\n","protected":false},"excerpt":{"rendered":"

Enron. WorldCom. Tyco. These are among the most notorious names associated with a wave of accounting scandals that plagued the early 2000s and ultimately helped spur passage of the 2002 accounting reform law known as Sarbanes-Oxley. While accounting restatements haven\u2019t gone away entirely since then\u2014there were 735 last year, down from a peak of 1,795 […]<\/p>\n","protected":false},"author":341,"featured_media":0,"comment_status":"open","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[66,12],"tags":[41],"class_list":["post-3089","post","type-post","status-publish","format-standard","hentry","category-departments","category-inside-business","tag-fall2011"],"_links":{"self":[{"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/posts\/3089","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/users\/341"}],"replies":[{"embeddable":true,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/comments?post=3089"}],"version-history":[{"count":1,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/posts\/3089\/revisions"}],"predecessor-version":[{"id":8815,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/posts\/3089\/revisions\/8815"}],"wp:attachment":[{"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/media?parent=3089"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/categories?post=3089"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/blogs.owen.vanderbilt.edu\/vanderbiltbusiness\/wp-json\/wp\/v2\/tags?post=3089"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}