Measuring Inter-Industry Relatedness: SIC Distances versus the Survivor Principle

The conventional approach to measuring inter-industry relatedness uses the SIC system to capture the "distance" between industries. While relatedness measures based on SIC codes (or equivalent classifications) are readily available and easy to compute, they do not screen effectively for the conditions under which related diversification creates value. This paper constructs an alternative, survivor-based measure of inter-industry relatedness and compares it to similar measures based on distances between SIC codes. We find that survivor-based measures consistently outperform SIC-based measures in predicting firms' decisions to enter new markets, even when herding tendencies and motives related to mutual forbearance are taken into account.