The Money Men Are Selling Rackspace Hosting

Is Rackspace Hosting (NYSE: RAX  ) headed higher, or lower? That's the question we ask when we evaluate insider buying and selling. We ask because how executives spend their paychecks is often a reflection of what they think of their companies' prospects.

Of course, not all buys are equal. According to two decades of research from Dr. H. Nejat Seyhun compiled in his book Investment Intelligence from Insider Trading, buying is most predictive when it (a) comes from the CEO or other top-level executive, and (b) is performed in bulk. Seyhun found buys of between 10,000 and 100,000 shares to be most informative.

How do Rackspace's managers measure up against Seyhun's benchmarks over the past year? See for yourself:

Insider Rating

Bearish

But also not as bad as it looks. Wells Fargo, a big shareholder, has been the primary seller. Executives still own a significant chunk of the company.

Business Description Provides hosted computing power. An important cog in the cloud-computing wheel.
Recent Price $27.89
CAPS Stars (out of 5) ***
Percentage of Shares Owned by Insiders 22.49%
Net Buying (Selling)^ ($31.1 million)
Last Buyer (% Increase) No insider buying in the prior 12 months.
Last Seller (% Decrease)

George Still Jr., Director

34,262 shares at $21.79 apiece on Sept. 14, 2010.

(Reduced direct holdings by 12%.)

Competitors Amazon.com (Nasdaq: AMZN  ) , AT&T (NYSE: T  ) , IBM (NYSE: IBM  )

Sources Form 4 Oracle, Capital IQ, and Motley Fool CAPS.
Data current as of Nov. 14.
^Open market sales and purchases only.

What we're tracking here, and why
Insider buying data can be confusing. Here, I'm concentrating only on buying and selling conducted in the open market. With most of these transactions, insiders control the timing. Other times they're buying or selling under the purview of a 10b5-1 plan. Either way, personal holdings are being bought and sold.

Those personal holdings matter the most; they're the shares executives hold for investment, rather than compensation. Employee stock options are different; they're compensatory in the purest sense. I've stripped out options-related buying and selling from the calculations you see above.

The Foolish view: bearish
Want to find a Rackspace skeptic? Go to Wall Street, turn three times, and spit. Chances are you'll hit an analyst who thinks Rackspace is overpriced.

OK, maybe it's not that bad. But when analysts at Pacific Crest downgrade on the basis of valuation, as they did last month, you know the stock has run far enough, fast enough that some on the Street are getting queasy.

The evidence is in the market action. After reporting third-quarter sales and earnings that met expectations last Monday night, the stock fell 7% before leaping 6%. It's almost as if nervous investors had their fingers poised above the sell button. Something about how the company signed 11,000 new customers in the quarter seems to have calmed these frayed nerves.

Yet some Fools remain wary of this two-time Motley Fool Rule Breakers recommendation. All-Star CAPS investor epetroel has maintained an underperform call on the stock since April, writing at the time:

Rackspace is a good business, but the share price is way out of sync with their earnings. With a P/E pushing 100, I would expect some really fantastic earnings growth, but the numbers just aren't there. Also, being in a low-margin, highly competitive business, I just can't see how people would expect their earnings to grow into that inflated share price.

With $31.1 million worth of insider selling, you'd think management would hold a similar view. Trouble is, $26.1 million of that total was from sales executed by an investment subsidiary of Wells Fargo (NYSE: WFC  ) that still owns more than 12% of Rackspace's shares outstanding. Meanwhile, Chairman Graham Weston remains the largest single shareholder with 15.8% of the business. Wake me when either of these two allows its ownership interest to duck into the single digits.

Want to learn more about Rackspace? Join us in a live chat with CEO Lanham Napier on Nov. 19 at noon EST. Napier will be taking questions directly from you, our Fool.com readers, so click below to set an email reminder so you don't miss out on this opportunity!

Amazon.com is a Motley Fool Stock Advisor selection. Rackspace Hosting is a Motley Fool Rule Breakers recommendation. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Tim Beyers is a member of the Rule Breakers stock-picking team. He owned shares of IBM at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. You can also get his insights delivered directly to your RSS reader. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool owns shares of IBM and is also on Twitter as @TheMotleyFool. Its disclosure policy has its eye on you.


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