Inside Ownership and
Leverage Increases
Robert M. Hulla,b
Sungkyu Kwaka
Rosemary Walkera
aSchool
of Business, Washburn University, 1700 SW College Avenue, Topeka, KS 66621
bCorresponding
author. Tel.: + 1-785-231-1010; fax: + 785-231-1063.
E-mail address: rob.hull@washburn.edu (R. Hull)
Beatrice Presentation, Topeka, Kansas, February 2003
Published by Global Business and Economics Review, 2005
Abstract
In this paper, we investigate the role of inside
ownership in explaining announcement period
stock returns for senior-for-junior transactions.
We find that returns are more positive for firms
with higher inside ownership percentages.
Returns become even more positive for firms in
which insiders are expected to be increasing
their ownership percentages.
JEL classifications: D820; G140; G320
Key Words: Inside ownership; Senior-for-junior;
Announcement period return; Security type; Firm size
Prior Research:
Two Lines of Research
Empirical researchers (Masulis, 1983; Cornett and
Travlos, 1989; Shah, 1994; Hull, 1994; Hull and
Michelson, 1999) document statistically significant
positive stock returns at the announcement of senior-forjunior transactions. These transactions can signal
positive information stemming from insider behavior
(Leland and Pyle, 1977), the alteration in fixed
obligations (Ross, 1977), adverse selection (Myers,
1984), and firm size (Bhushan, 1989).
Researchers investigate the effect of inside ownership
on the market's reaction to the announcements of
various corporate decisions, including stock repurchases
(Vermaelen, 1981), dividend initiations (Born, 1988), selloffs (Hirschey and Zaima, 1989), stock splits (Han and
Suk, 1998), and junior security offerings (Hull and
Mazachek, 2002). They find that firms with higher inside
holdings have greater announcement period returns.
Purpose
In this paper, we extend pure
leverage increase and inside
ownership research by testing
whether announcement period stock
returns for senior-for-junior
announcements are more positive for
firms with higher levels of inside
ownership.
Testable Hypotheses
H1: The stock returns for senior-for-junior
announcements will be more positive for firms
with higher levels of inside ownership.
H2: The stock returns for senior-for-junior
announcements will be more positive for firms in
which insiders are expected to undergo greater
increases in their levels of ownership.
Table 1: Descriptive Statistics
Key Variable
Mean
(Median)
14.95%
(10.73%)
Senior Offering Value
$184M
($41M)
Common Stock Value
$975M
($223M)
$2169M
($460M)
14.69%
(8.54%)
Inside Ownership
Firm Value
Senior Offering Value as a
Percentage of Firm Value
Table 2: Panel A. Announcement return results by portfolio
Sample
Tested
Number of
Observations
All
48
0.23% 55.60%
4.86%
5.10***
Portfolio
1
16
0.23% 3.45%
2.66%
2.16**
Portfolio
2
16
4.10% 20.10%
4.33%
2.54***
Portfolio
3
16
20.20% 55.60%
7.59%
4.20***
Portfolios
Inside
Cumulative
Ownership Abnormal
Percentages
Returns
t-statistic
Table 2: Panel B. Tests for equality of portfolio returns
Test
Portfolios
Compared
Test
Statistic
F-test
1, 2, and 3
F = 2.45*
t-test
1 and 2
t = 0.79
t-test
2 and 3
t = 1.31*
t-test
1 and 3
t = 2.26**
Table 3. Correlation Results
CAR
INS
PCH
PRM
TYP
LFS
CAR INS
PCH PRM TYP LFS
--0.28** 0.39*** 0.31* -0.27* -0.31**
0.29** ---0.04
0.03
0.22 -0.58***
0.34** -0.08
--0.32** -0.47*** -0.11
0.37*** 0.03
0.25*
---0.29** -0.12
-0.26* 0.28* -0.35** -0.29** ---0.19
-0.33** -0.49*** -0.17 -0.14 -0.18*
---
Table 4: Regression Results
CON.
a0
INS
a1
PCH
a2
PRM
a3
TYP
a4
LFS
a5
2.358
0.39
0.128
1.88**
3.608
1.37*
3.079
1.66*
-3.349
-1.65*
-0.651
-1.19
-3.470
-0.95
0.166
2.74***
4.396
1.72**
3.358
1.82**
-2.919
-1.45*
-----
-----
-----
-0.874
-0.56
0.143 0.131 3.747
2.47*** 2.50*** 2.08**
R2
Value
(FValue)
0.35
(4.51***)
0.33
(5.23***)
0.31
(6.72*** )
SUMMARY
This study extends the pure leverage increase and inside
ownership research by examining the role of inside ownership
when firms announce senior-for-junior transactions.
Tests of portfolios, formed according to the percentage of inside
ownership, show that portfolios with higher levels of inside
ownership have stock returns significantly more positive than
those with lower levels of inside ownership.
Correlation and regression tests offer further evidence that the
level of insider ownership influences the market response.
These tests also show that the market response becomes more
positive when insiders are expected to undergo greater
increases in their ownership.
We find that the market reaction continues to become more
positive if firms announce greater premium or if the announcing
firm is a smaller firm.
Practical Conclusion
Practically speaking, our findings can guide
managers in terms of what to expect when
announcing a pure leverage increase. Managers
of firms with high inside ownership can
anticipate a more positive market response. This
positive response can be enhanced if insiders
are perceived as increasing their percentages of
ownership. Managers can further increase the
positive response if they announce a premium or
represent a small where less information about
the firm is available.