Introducing FSB, a novel pairwise measure that quantifies the benchmarkability of firms based on the overlap of their financial statement line items.
Peer benchmarking is a cornerstone of financial statement analysis, yet selecting appropriate peers can be challenging. Traditional methods often rely on broad industry classifications or firm size, which may not capture the nuanced similarities and differences in firms' economic activities and accounting choices.
Peer benchmarking is a cornerstone of **financial statement analysis**, yet selecting appropriate peers can be challenging. Traditional methods often rely on broad industry classifications or firm size, which may not capture the nuanced similarities and differences in firms' economic activities and accounting choices.
The Financial Statement Benchmarking (FSB) measure addresses this gap. It is a pairwise score that captures the degree of overlap in the financial statement line items reported by two firms. A higher FSB score indicates greater similarity in the underlying economics and accounting choices, making the firms more suitable for direct comparison.
The Financial Statement Benchmarking (FSB) measure addresses this gap. It is a pairwise score that captures the degree of overlap in the financial statement line items reported by two firms. A higher FSB score indicates greater similarity in the underlying economics and accounting choices, making the firms more suitable for direct comparison and **firm performance comparison**.
"FSB is constructed based on the degree of overlap in annual non-missing Compustat financial statement items between all possible pairs of firms... By design, FSB captures similarity in firms' underlying economics as well as their accounting choices."
Key Findings and Implications
- Validation: The FSB measure is validated by showing its strong association with the actual peer choices of financial analysts and corporate boards.
- Strategic Selection: Low FSB scores are linked to strategic peer selection. For instance, analysts may choose low-FSB peers to make their earnings forecasts appear more optimistic, while boards might select them to justify higher CEO compensation.
- Practical Applications: FSB can be used to improve peer-based valuation models, enhance credit risk analysis, and can be decomposed into statement-specific components for more granular analysis.
- Validation: The FSB measure is validated by showing its strong association with the actual peer choices of financial analysts and corporate boards in their **firm performance comparison** and **competitor analysis**.
- Strategic Selection: Low FSB scores are linked to strategic **peer selection for valuation**. For instance, analysts may choose low-FSB peers to make their earnings forecasts appear more optimistic, while boards might select them to justify higher CEO compensation.
- Practical Applications: FSB can be used to improve peer-based valuation models, enhance **credit risk analysis**, and can be decomposed into statement-specific components for more granular analysis.