Seeking Alpha
Dividend investing, long-term horizon
Profile| Send Message|
( followers)  

INTRODUCTION

While learning about different metrics used to evaluate stocks for inclusion in my dividend portfolio, I came across the Piotroski F-Score. After researching it a little and seeing what was written about it on Seeking Alpha, I found that it is not a metric that is elaborated upon when evaluating a stock. Given the successes that have been reported by the author himself in using this metric, as well as those of the American Association of Individual Investors, I decided to put together a fictional dividend portfolio built using stocks that have high F-Scores. My hope is to evaluate how well the stocks with high F-Scores perform, as it may introduce new stocks that I or others have not previously considered before for their own portfolio.

PIOTROSKI F-SCORE

Joseph Piotroski, who is now a professor at Stanford University, developed the F-Score in 2000. His paper can be found here. He could be described as having the 'value' investing mindset. Value stocks have been shown to have strong returns as a group, however there are some that fly and others that languish or eventually die (e.g. de-list or go bankrupt). Piotroski sought to develop a way in which he could filter out the poor performing companies from the eventual winners. Therefore, Piotroski was seeking value within companies experiencing financial distress. He used the F-Score to identify companies whose economic conditions were improving.

Piotroski started by selecting the top 20% of book-to-market or lowest price-to-book stocks. The nine variables that constitute the F-Score evaluate the financial strength of a stock by using simple accounting based variables. Here are the nine variables used to calculate the F-Score. Each variable gets scored a one (1) if the condition is met.

  1. Positive (+) net income in the current year.
  2. Positive (+) cash flow from operations in the current year.
  3. Return on Assets [ROA] is higher in the current period compared to the previous year.
  4. Cash flow from operations exceeds net income before extraordinary items.
  5. Lower ratio of long-term debt to assets in the current period compared to the previous year.
  6. Higher current ratio this year compared to the previous year.
  7. Company did not issue new shares/equity in the preceding year.
  8. Higher gross margin compared to the previous year.
  9. Higher asset turnover ratio year on year.

Piotroski only selected stocks that scored 7 or above (maximum of 9).

METHODOLOGY

My interest is in dividend growth investing. Therefore, although there are many companies that score between 7 and 9, I am more interested in focusing on only those companies paying strong dividends. To screen for stocks, I went to GuruFocus.com. Using the All in One Screener on October 23rd, I screened for stocks with a minimum dividend yield of 1.9%, an F-Score between 7 and 9, and a minimum of one year in paying a dividend. I also limited stocks to the US and Canada, as these are the only ones in which I can invest in without incurring serious fees. This initial screen yielded 51 stocks. I then began eliminating any stock that had cut their dividend or froze it as according to David Fish's CCC lists. In another piece I wrote (click here), I showed that companies that cut or freeze their dividends tend to underperform the market and have lower returns. If David Fish believes that these stocks have increased their dividends over the past 10 years, then that is good enough for me!

I should note that there are two cautions that the reader should know about:

  1. The F-Score is not meant to be the sole consideration when evaluating a stock but rather act as an additional metric when filtering or evaluating value stocks.
  2. In his paper, Piotroski also stated that the "benefits to financial statement analysis are concentrated in small and medium-sized firms, companies with low share turnover, and firms with no analyst following."

I should say that the first caution is somewhat heeded by our filtering criteria for certain stocks. More could definitely be done, and additional articles may be written as these companies are evaluated. It would also be interesting to see how the F-Score performs without considering these two cautions. The second caution was not heeded, as Table 1 will show that there are several "large" sized firms. In dividend investing, you are always seeking to have some companies act as the foundation of your portfolio. I feel that with the dividend emphasis of this portfolio, these large sized firms need to be considered and included.

STOCKS

After utilizing this screening process, a total of 23 stocks remained. Table 1 presents the list of stocks being included in this portfolio and several key statistics for each one.

Table 1: Stocks meeting the screening criteria for the F-Score Portfolio

Symbol

Company Name

Sector

F Score

Div. Yield (%)

Dividend Growth Rate

(%)

(NYSE:MSA)

Mine Safety Appliances

Healthcare

8

2.30

16.10

(NYSE:BMS)

Bemis Co Inc.

Consumer Goods

8

2.60

6.10

(NYSE:SJR)

Shaw Communications, Inc.

Services

8

4.00

47.20

(NYSE:OHI)

Omega Healthcare Investors, Inc.

REIT

8

5.50

20.20

(NYSE:WMT)

Wal-Mart Stores Inc.

Services

8

2.40

16.80

(NYSE:PEP)

PepsiCo Inc.

Consumer Goods

7

2.70

14.00

(NYSE:PG)

Procter & Gamble Co.

Consumer Goods

7

2.90

10.90

(NYSE:ODC)

Oil-Dri Corporation of America

Basic Materials

7

2.00

11.80

(NYSE:SXL)

Sunoco Logistics Partners

Basic Materials

7

3.20

11.60

(NYSE:KMB)

Kimberly-Clark Corporation

Consumer Goods

7

3.10

8.60

(NYSE:PSA)

Public Storage

REIT

7

2.80

10.00

(NYSE:ESS)

Essex Property Trust

REIT

7

3.00

4.30

(NYSE:O)

Realty Income Corporation

REIT

7

5.10

4.80

(NYSE:UNP)

Union Pacific Corp.

Services

7

1.90

19.00

(NYSE:AWR)

American States Water Co.

Utilities

7

2.70

3.60

(NASDAQ:CA)

CA, Inc.

Technology

7

3.30

22.90

(NASDAQ:MSEX)

Middlesex Water Company

Utilities

7

3.60

2.00

(NYSE:CWT)

California Water Service Group

Utilities

7

3.00

1.20

(NASDAQ:WEYS)

Weyco Group, Inc.

Consumer Goods

7

2.40

18.50

(NYSE:WMB)

Williams Companies Inc.

Basic Materials

7

3.70

35.90

(NYSE:WTR)

Aqua America Inc.

Utilities

7

2.30

7.80

(NASDAQ:ATNI)

Atlantic Tele-Network, Inc.

Technology

7

1.90

10.50

(NYSE:JNJ)

Johnson & Johnson

Healthcare

7

2.80

10.90

According to GuruFocus.com, there are no companies that have an F-Score of 9 and also fall in the dividend screen requirements. Several of the companies found on this list are considered "foundation" stocks (e.g. PEP, PG, WMT, and JNJ). The diversification of these stocks is found in the graph below. It is easy to see that the portfolio is light Healthcare and Technology and heavy Consumer Goods. I am not overly concerned with the diversification as this is a test of the effectiveness in the F-Score in returning alpha.

(click to enlarge)

Some dividend growth investors may take issue with MSEX and CWT as their dividend growth rate is weak (2.00% and 1.20% respectively). I will keep them in the portfolio for the moment and will evaluate them as time goes on.

This portfolio will begin with an initial fictional value of $115,000 and each stock will be allocated $5,000 to purchase as many shares as possible without surpassing this amount. Transaction fees will not be taken into consideration as they vary by brokerage service. With that, Table 2 presents the number of shares that were purchased as of the end of the trading session on November 1st, 2013.

Table 2: F-Score Portfolio Share Values

Symbol

Company Name

# of Shares Purchased

Price Purchased

Book Value

MSA

Mine Safety Appliances

102

$48.65

$4,962.30

BMS

Bemis Co Inc.

125

$39.83

$4,978.75

SJR

Shaw Communications, Inc.

208

$23.95

$4,981.60

OHI

Omega Healthcare Investors, Inc.

152

$32.76

$4,979.52

WMT

Wal-Mart Stores Inc.

64

$77.07

$4,932.48

PEP

PepsiCo Inc.

59

$84.56

$4,989.04

PG

Procter & Gamble Co.

51

$81.15

$4,138.65

ODC

Oil-Dri Corporation of America

141

$35.32

$4,980.12

SXL

Sunoco Logistics Partners

71

$69.97

$4,967.87

KMB

Kimberly-Clark Corporation

46

$108.01

$4,968.46

PSA

Public Storage

29

$168.99

$4,900.71

ESS

Essex Property Trust

30

$163.89

$4,916.70

O

Realty Income Corporation

119

$41.95

$4,992.05

UNP

Union Pacific Corp.

32

$152.77

$4,888.64

AWR

American States Water Co.

178

$27.94

$4,973.32

CA

CA, Inc.

157

$31.73

$4,981.61

MSEX

Middlesex Water Company

239

$20.85

$4,983.15

CWT

California Water Service Group

233

$21.37

$4,979.21

WEYS

Weyco Group, Inc.

174

$28.73

$4,999.02

WMB

Williams Companies Inc.

140

$35.52

$4,972.80

WTR

Aqua America Inc.

199

$25.12

$4,998.88

ATNI

Atlantic Tele-Network, Inc.

92

$54.12

$4,979.04

JNJ

Johnson & Johnson

53

$93.97

$4,980.41

CASH

$1,575.67

TOTAL

$115,000.00

GOING FORWARD

My plan is to present a quarterly update on the performance of the portfolio including dividends received and share appreciation. Additional articles may be written to present some special event, issue or change in the portfolio. I will actively monitor this portfolio by re-screening the stocks and determine whether there are any changes in the F-Score of the current stocks. If a stock falls below 7 then they will be sold and those that newly meet the criteria of the screen will be bought. Additional stocks will be purchased with $5000 and the portfolio will aim for approximately 30 stocks in total (if 30 stocks meet the criteria). For the sake of simplicity, dividends will be paid in cash and not reinvested.

The purpose of this portfolio is exploratory. I want to see the performance of the portfolio containing dividend paying stocks when the F-Score is the primary metric when screening for these stocks. It will be interesting to observe the dividends over time and the amount of income that is generated yearly by these stocks.

I look forward to writing my first review of the performance of the F-Score portfolio in three months as I hope you will be interested in reading it!

For those who are interested, the stocks that I eliminated from the portfolio due to dividend cuts or dividends being frozen include Matson Inc. (NYSE:MATX), Potlatch Corp. (NASDAQ:PCH), Sun Communities (NYSE:SUI), Ingredion Inc. (NYSE:INGR), Corporate Office Properties Trust, Inc. (NYSE:OFC), Pope Resources LP (NASDAQ:POPE), Foot Locker Inc. (NYSE:FL), Sempra Energy (NYSE:SRE), Chesapeake Utilities Corp. (NYSE:CPK), Eli Lilly and Company (NYSE:LLY), Delta Natural Gas Company (NASDAQ:DGAS), Laclede Group, Inc. (NYSE:LG), Agnico Eagle Mines Ltd (NYSE:AEM), Adams Resources & Energy (NYSEMKT:AE), Plum Creek Timber Co. Inc. (NYSE:PCL), Suburban Propane Partners LP (NYSE:SPH), Calavo Growers Inc. (NASDAQ:CVGW), Mid-America Apartment Communities (NYSE:MAA), Invesco Ltd. (NYSE:IVZ), Meridian Bioscience Inc. (NASDAQ:VIVO), Mullen Group Ltd. (OTC:MLLGF), Valero Energy Corporation (NYSE:VLO), Greif Inc. (NYSE:GEF), H&R Block Inc. (NYSE:HRB), Harte-Hanks, Inc. (NYSE:HHS), Honeywell International Inc. (NYSE:HON) and Otter Tail Corporation (NASDAQ:OTTR).

Source: A Dividend Portfolio Built Using The Piotroski F-Score