Board size and firm performance: the moderating effects of the market for corporate control

Abstract

We examine whether takeover threats affect the importance of board size using the passage of state antitakeover laws enacted in mid-to-late 1980s as our empirical setting. While the Complement Hypothesis predicts that board size matters more before the passage of the laws, the Substitute Hypothesis predicts the opposite. For a sample of 350 Forbes 500 firms over the period 1984–1991, we find a significant association between smaller boards and better firm performance before passage of antitakeover laws, but a much weaker relation (reduced by more than one-third) after the takeover restrictions were in place. Consistent with the Complement Hypothesis, this finding suggests that decreasing board size is more valuable when the market for corporate control is more active.