Industry and Sector Allocation

Conventional approaches to modeling financial risk often employ a one-size-fits-all approach, relying on a small number of variables and a single model to understand all companies. RapidRatings’ approach is a significant step forward from these approaches. Our research has made it clear that the profile of a healthy company varies from industry to industry. RapidRatings employs 22 different industry-specific models to ensure that we are analyzing financial health as accurately as possible. In addition, we examine 68 different ratios when we measure financial health, which makes our model more robust and less dependent on any given metric.

Our emphasis on modeling industry-specific risk is a powerful differentiator for RapidRatings. By recognizing that the profile of a successful company varies depending on industry, we have developed a more accurate measure of financial health in our FHR.

In order to assign a company to the best industry model, RapidRatings analysts review the business model of the company in question and assign it to the correct industry model utilizing a mapping schematic that guides the correct placement of the industry code (this is true for both public and private companies). SIC classifications and LSEG (London Stock Exchange Group) industry classifications are both mapped automatically to one of our industry models.

There is always a tradeoff between industry granularity and sample-size when developing systematic models for financial health. On one hand, using many different models assures a close fit between any given company and its model. Using fewer models, however, allows more data to calibrate each model, making the model more stable and robust. RapidRatings utilizes 22 different industry-specific models, which is far more than competing approaches, many of which employ a “one size fits all” approach. We are fortunate to have an extremely rich and sizeable dataset which allows us to build all 22 models to be stable and robust over time. As a result, RapidRatings provides unprecedented granularity and accuracy.

Companies allocated to a common model may not look exactly the same, but will share similar quantifiable risk profiles. For example, the Wholesale Trade model is used to provide ratings guidance on companies distributing goods from many different sectors of the economy. These firms may work with different partners, in different geographies, selling different products. Nevertheless, because they share very similar profiles when it comes to characteristics such as working capital utilization, fixed assets, and profitability, they can be effectively benchmarked using our Wholesale Trade model.

The 22 industry models we use:

Completely separate from the RR industry model classification process, sector assignment is closely linked to Russell Index Sector Allocations. The purpose of assigning a sector allocation is to provide logical groupings of names into sectors that are generally recognizable to a vast majority of users. For example, in the FHR Report, each company is compared to the leaders and laggards in its sector.

A list of the current RR sectors is below.