The Impact of Industry Classification Schemes on Financial Research

Abstract

This paper investigates industry classification systems. During the last 50 yearsthere has been a considerable discussion of problems regarding the classification ofeconomic data by industries. From my perspective, the central point of each classificationis to determine a balance between aggregation of similar firms and differentiationbetween industries. This paper examines the structure and content ofindustrial classification schemes and how they affect financial research. I use classificationsystems provided by the Worldscope and the Compustat database. First,this study gives a detailed description of the structure and methodology of industrialclassification systems and the relevance in leading finance and accounting journals.Second, I construct a benchmark classification system to measure the performanceof different systems and provide evidence that some systems a more homogeneousin terms of value drivers than others. Third, I examine how multiple valuation isinfluenced by industry classification and show that the results vary significantly fordifferent systems.