A Method to Address the Effectiveness of the SIC Code for Selecting Comparable Firms

To find peer firms is very important in several situations, for example in equity valuation for publicly traded firms, as well as for not publicly traded ones. Very often the pay of a chief executive officer (CEO) is set at the basis of a peer compensation group. Financial policies are often driven by a response to peers. It is a very common approach to use industry membership given by the SEC (United States Security and Exchange Commission) SIC (Standard Industrial Classification) code to form peer groups. In the paper the effectiveness of the SIC code for selecting comparable firms is evaluated through nonparametric testing for difference in firm financial ratios.