The relationship between accounting and market measures of firm financial performance: How strong is it?

This study addresses an important ongoing debate in the management literature about the relationship between accounting and market measures of firm financial performance, namely, whether it is sufficiently strong so that researchers can treat them as equivalent, interchangeable indicators of firm financial performance. Using annual financial data from all the publicly traded U.S. firms in the COMPUSTAT database from 1961 to 2008, this study finds that, although measures of accounting profitability and market performance are positively correlated across industries, their covariance is less than 10% and thus provides no evidence of convergence. It also finds that accounting profitability and market performance do not load on a higher-order factor, and that in only a very few industries are they correlated at a high level (r > 0.50). The findings have important implications for the conception and measurement of firm financial performance in future research.