Do Corporate Restructuring Announcements Imply Bad News? Evidence from Short Selling

Abstract

Corporate restructurings involve substantial strategic changes and often occur when a corporation faces an inflection point, after which it aspires to improve performance. Despite a lengthy record of research into equity market investors' short-term responses to restructuring announcements, results remain ambiguous. In this study, we investigate investors' reactions to restructuring announcements based on the behavior of short sellers. Relative to other equity investors, short sellers are better equipped to discern whether restructuring plans will succeed. Given their approach of profiting from market price declines, short sellers will focus their investment in those restructuring corporations with low odds of success. Using a sample of corporate restructurings announced from 2010 to 2017, together with daily short selling data, we find evidence of increased trading by short sellers on and immediately after (but not before) corporate restructuring announcements. With a finer measure of restructuring, restructuring costs, we again find a significant association with abnormal short selling, but only for cost restructuring announcements. Finally, when we examine whether short sellers use the restructuring announcement to trade profitably, we find a modest but significant association between short selling activity on or after the restructuring announcement and negative future stock returns. When we partition our sample between cost and asset restructuring announcements, we find evidence of an association between short selling activity and cost restructuring announcements, and with negative future stock returns, but not with asset restructurings. This result suggests short sellers only trade profitably on cost restructuring announcements, meaning those firms' restructuring announcements foretold bad news. By relying the investment and trading of a novel set of investors for this setting, our study adds results with a clear perspective to the existing literature.