Abstract
This study investigates insider trading patterns in innovative firms. While prior research often attributes persistent insider trading profitability to governance failures, we argue that boards of innovative firms refrain from imposing restrictions on certain insider trades to help convey information about the firm's opaque R&D activities. We document that insider purchases, but not sales, are more profitable at firms with R&D expense than firms without. Inconsistent with governance failures, the profitability of insider purchases in R&D firms is more pronounced in well-governed firms and after the Sarbanes-Oxley Act of 2002. While there is a positive relation between insider purchases and stock illiquidity for firms with no reported R&D, this positive relation is entirely muted for R&D firms. Moreover, insiders purchase (do not sell) more shares after receiving positive (negative) exogenous surprises about the likelihood of patent approval. Insiders of R&D firms also purchase shares more intensely after the disclosure of major corporate events than before. Crucially, firms' future profits are higher and innovation outcomes are better subsequent to insider purchases. Collectively, our findings suggest that the persistent insider trading profitability in innovative firms is driven by insider purchases that help convey information about their firms' opaque R&D activities.