Tell me you have a plan! Insider trade signals from firms undergoing corporate downsizing

Firms routinely reduce their employee headcount in response to competitive and economic pressures. The effectiveness of downsizing appears mixed as firms enjoy positive excess returns but also increased delisting and default likelihoods, consistent with compensating investors for additional risk. Insiders at downsizing firms are more likely to purchase shares than those at other firms, and in this study, we explore insider trading activity as a signal about the effectiveness of corporate downsizing. Exploiting heterogeneity within downsizing firms, we find that the excess returns observed in downsizing firms are concentrated in firms where insiders purchase shares. Further, insider purchases are followed by lower future delisting likelihoods and financial distress in downsizing firms. Finally, we observe that insider purchases at downsizing firms are more prominent when trades are easily observable. Our results are consistent with insiders intentionally providing costly, credible signals about corporate executives' plan for firm improvement following downsizing.