Einhorn’s other notable shorts were Lehman Brothers and more recently St. Joes, where he is pitted against Bruce Berkowitz who has a substantial long position. Einhorn is often a controversial speaker, and it would not surprise me if he announces a new short position, or interesting long position at the congress. Today is the last day you can sign up through the Chroma Investing and get the Value Investing Congress discount saving you $1000. The conference is a few weeks a way from Oct 17-18th.

If you would like more information on who is attending you can go to Value Investing Congress or to my page devoted to Value Investing Conferences.

Related Posts:

• Value Investing Conferences – Investing Resources
• Greenblatt, Ackman & Value Investing Masters speak at the Value Investing Congress
• Save $1400 Learning about Value Investing
• Value Investing Congress Discount Ends
• How to pick a Value Investing Conference

How to Pick a Value Investing Conference

The first thing to do is start with value. This is not  a surprise statement on this website. As always, value is in the eye of the investor. What is a great value?

Start With Your Assets

What? Yup, Start with your assets. If you are small time value investor, or a young person just beginning to invest, you may have very little money to invest. You may be struggling to pay off credit card debt or scrimping to save up your first bit of capital to invest. Or you may be flush with a retirement fund or come into a big inheritence that you have decided you can invest better for yourself.

If your total capital is only $2000 it doesn’t make any sense to spend $2000 attending a value investing conference no matter how great it is. On the other hand a conference such as the American Association of Individual Investors conference which is only a couple of hundred dollars may be a great way to kick start your early investing efforts. In particular investing conferences are terrific avenues for asking questions, clarifying investing ideas and meeting like minded individual investors.

On the other hand, if you have a portfolio of $500,000, spending  a few thousand dollars to attend a great event like the upcoming Value Investing Congress, won’t hit your underlying capital and may actually provide insights that can energize your investing process.

What Value Investing information are you looking for?

Value Investing conferences are essentially tools to help educate yourself as an investor. Look through the websites of the investing conferences you are interested in to see who is speaking and what topics they are covering. Some of the topics at upcoming value investing conferences include: Value Investing today, Finding Outstanding Investments, Global Value Equity Investing, Emerging Markets: Overheated or Alluring?, Sustainable Investing: Not Just for Hippies Anymore, and this tongue twister: How to Decipher Financial Statements,  Avoid Value Traps, and Pick Investment Winners. There is a lot of variety at investing conferences so you need to figure out what you are interesting in learning, what can complement and expand your investing knowledge. Only you can assess what you know and what  you don’t know.

Value Investing Conferences can also focus on practical investment knowledge, such as actionable equities analysis or investing case histories. All knowledge is not the same. After some investing conferences you walk away with value investing strategies and others with specific stock picks from great investors. There is no right answer, it will depend on what you are looking for.

Who is speaking at the Value Investing Conference?

Another important factor influencing your decision to attend an investing conference is who is speaking. At next year’s Value Investor Conference in Omaha several of the speakers are best selling authors as well as fund managers. I have read Robert Hagstrom’s The Warren Buffett Way, he is now a portfolio manager at Legg Mason. Pat Dorsey used to be director of Equities Research at Morningstar when he wrote the book, the Little Book that Builds Wealth, part of that popular investing book series.

If you like to hear the superstars of Value Investing speak, it is hard to beat the Value Investing Congress. Next month hedge fund manager Bill Ackman, who I have profiled recently, Joel Greenblatt, author of one of my favorite investing books, How to be a Stock Market Genius (yeah I know it is a dumb title, but it is a really good book) The Little Book that Beats the Market and his most recent book the Big Secret for the Small Investor. And if you don’t know him from his books you may know he is founding partner of Gotham Capital and phenomenal investor.

The most important thing to remember about investing conferences is that they are not THE answer to value investing, but they are a fantastic tool to learning or refining you knowledge of Value Investing.

If you want more information on any of the conference go the Value Investing Conference page.

Disclaimer: I am a media partner with Value Investing Congress.

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• Greenblatt, Ackman & Value Investing Masters speak at the Value Investing Congress
• Save $1400 Learning about Value Investing
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• Investing Conference for Beginning Investors – AAII

But what is Value Investing?

This is obviously a beginning investor question. But weekends are for beginning value investors, since that is probably when they have time to investigate their investing strategies. In layman’s terms, Value Investing is about buying something for less than it is worth, whether its socks or stocks. Investors who use this form of analysis are called Value Investors. Famed value investors are Warren Buffet who began his career as a value investor and Sir John Templeton, Seth Klarman and Joel Greenblatt. But the Godfather of Value is Benjamin Graham.

Origins of Value Investing

Because of their 1934 book, Security Analysis, Benjamin Graham and David Dodd are regarded as the pioneers of value investing. This book provided the investment community with a concept of value investing, although it did not gain that moniker until later. The value duo chastised the investment community for being too short sighted. Oh, and obsessing about earnings. Some things in investing don’t change much. The real importance of Security Analysis is that it provided a set of criteria, what would later become the value investing criteria for individual stock selection.

Ultimately Graham says, “But in applying analysis to the field of securities we encounter the serious obstacle that investment is by nature not an exact science.” No kidding. That is why he developed the concept of a margin of safety. Investing, even value investing, is not precise so you need to have a buffer.

Graham’s 1949 book, The Intelligent Investor, was widely acclaimed with Warren Buffett cementing its reputation by commenting that it was,” by far the best book on investing ever written.”

How to value a Value Investment

So, how does one know if a stock is undervalued or not? As with most things in life, keep it simple. Value Investing is at heart a contrarian investing philosophy. We look for the out of favor, the unpopular and the beaten down to discover what is a bargain. Numerous directions can result in a value investing strategy. Here is one example.

The search begins by analyzing a company’s financial statements. From the balance sheet, calculate the book value, simply, total assets-total liabilities. Dividing book value by the number of shares outstanding on the balance sheet date, you arrive with a book value per share figure. Comparing the current stock price and book value per share gives an investor a good start in determining if the stock is undervalued or not. . I have written previously about a low price to book value investing strategy. Compare this ratio to the companies industry or the market as a whole.

Complications can arise. Intangible assets such as brand names, patents and trademarks come into play and can affect calculations, which is why  price to Tangible book is often used instead of the traditional price to book value.

Should I become a Value Investor?

It’s natural for a beginner to ask, “How do value investor’s performance fare against the market?” The weird part is that there is so much research showing that value investing is superior to “growth” or  technical investing that  you would think everyone would be a value investor. Fortunately, for you and I that is not true.

A good illustration is Warren Buffett’s article in 1984 titled, The SuperInvestors of Graham-and-Doddsville. Buffett challenged the ‘efficient market” theory and compared the performance of Graham and Dodd’s value investors against the market. He argued that if a large proportion of the winners belong to a particular group who practice value investing, their success is due to a winning strategy, not by chance as efficient market theorists assert.

In summary, value investing could be called by common sense investing, in a world where common sense is rare. . Look around chroma investing, it is free. There are not many better value investments than free.

Related Posts:

• Great Value Investing Strategies – Piotroski’s F-score Investing
• Value Investing Criteria that Works- Low Price to Free Cash Flow (FCF)
• Beginning Value Investor Terms – Exchange Traded Fund (ETF)
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But don’t skip this article.

I have wanted to write this article for a long time. It is essential because I use this value investing strategy as part of my 80-20 Portfolio stock selection. This is one of those value investing strategies that gets a lot of attention, but then is often depicted incorrectly. So if you skip to the why the F-score is so great section, please read to the end from there.

What is Piotroski’s F-score?

In his landmark study, Value Investing: The Use of Historical Financial Statement Information to Separate Winners from Losers, Joseph D. Piotroski sought to investigate whether it was possible to take the long established advantage of low Price to Book (or in academic terms High Book to Market) companies and gain an advantage in investment returns. This paper is thick and difficult to understand if you are not well versed in investing terms.

I will summarize the paper briefly, then get to the results and why it MAY be appropriate for investing. I have supplied the paper for download, although to be honest, it is a pretty tough slog for those of us not trained in advanced math.

First the background.

In the Introduction he introduces the idea that “investors can create a stronger value portfolio by using simple screens based on historical financial performance…the differentiation of eventual “winners” from “losers.”

Nice to have a little support on the use of Value Investing Screeners.

In section 2.1, Piotroski discusses the previous research of low Price to Book stocks, some of which has been discussed previously on this website.

In section 2.2 One interesting and important note is that ,”financial analysts are less willing to follow poor performing, low-volume, and small firms (Hayes 1998, MCNichols and O’Brien 1997), while managers of distressed firms could face credibility issues when trying to voluntary (sic) communicate forward-looking information to the capital markets (Koch 1999; Miller and Piotroski 2002).” Why is that important? The implication is that analysts are unlikely to be following a company and thus little information about a companies prospects are likely to be disseminated to the market. This can create inefficiency in the marketplace. It also points to a potential catalyst in this strategy and that is that a stock gaining analyst coverage could expect to have a large price swing, (hopefully positive, if we have invested in it).

In Section 2.3 Piotroski highlights that most low Price to Book companies are “financially distressed (e.g. Fama and French 1995; Chen and Zhang 1998).“He states that his F_score will be based on nine binary signal from the financial data. That is the sum of  nine yes or no questions.  The context is important. The results of some of the individual criteria can be “ambiguous.” “For example, an increase in leverage can, in theory, be either a positive (e.g. Harris and Raviv 1990) or negative (Myers and Majulf 1984; Miller and Rock 1985) signal. ” Obviously, for financially distressed companies the likely result is negative.

The problem with low price to book companies is that many of them fail because the companies genuinely do have problems. To be a good value investor you need to be able to weed out the losers from the winners. The importance of his study is that Piotroski felt that you can find the best of the worst by answering some fairly simple yes-no financial questions and thus increase your returns. The results you can see coming up.

How to measure the F-score

The next few sections lay out what the binary measurements of the F-score are. If it passes the measurement it gets a 1, if it fails it gets zero. Add up all nine elements and you have the F- score. If you do not plan on calculating this yourself or ensuring that software you use is calculating it correctly, you can skip to the next section. But I recommend slugging it out, so you can understand some of the calculations that help determine whether or not a company is worth investing in.

Profitability

In section 2.3.1 of his study Piotroski lays out his measurements for Profitability.  Their are four: Net Income, Cash Flow from Operations (CFO), Change in Net Income, and the difference between CFO and Net Income.  Profitability is important because in his research 41.6% of low price to book firms have experienced a loss in the previous two years. Here is how it breaks down.

1. Net income,  (is defined as before extraordinary items) must be positive. Positive means 1 point, negative zero points.

2. Cash Flow from Operations must be positive. Both one and two in Profitability are a result of the point above that over 40% of low price to book companies have suffered a loss recently.

3. Net income from this year must be greater than the previous year. IF it is one if not zero.

4. Cash Flow from Operations must be greater than Net Income. Piotroski makes this clear, “Sloan (1996) shows that earnings driven by positive accrual adjustments (i.e., profits are greater than cash flow from operations) is a bad signal about future profitability and returns.”

Leverage and Liquidity

In section 2.3.2 Piotroski discusses Leverage and liquidity. Leverage describes how indebted a company is. Do they owe more than they can pay. Liquidity is really a companies ability to pay its bills in the short term. It may be that you have plenty of assets that cannot be easily converted to pay the bills in the near term. Both of these can cause a company to fail.

5. Change in Ratio of Long term Debt to Total Average Assets – This is the leverage question so, if the ratio should fall from year to year give your company one point, if it rises zero.

6. Current Ratio- Is an often used measure of liquidity. The Current ratio should increase from one year to the next. Interestingly, the study does not set a minimum that current ratio should be at.

7. Equity offering- the firm should not issue any new stock during the previous year. If  a company is issuing stock when the price of the equity is cheap, they are incurring a high cost of capital and it is more evidence of financial stress.

Operating Efficiency

2.33. Operating Efficiency

8. Gross margin ratio improves- That is gross margin to total sales, less the previous gross margin ratio. This difference should be positive. The reason for this is that an increasing gross margin is likely coming from an important improvement in the underlying business such as rise in price of products, lower cost of inventory, or other such factors.

9. Asset turnover ratio improves- Piotroski defines asset turnover ratio as the total sales for a year to total assets from the beginning of the year. Compare to the previous year’s asset turnover ratio. If there is an increase add a point, if not zero. This makes sense when you see that an improvement implies one of two things: more sales are being generated by the assets or more sales are being generated with the same assets. Both positive signs.

To get the F-score you add up all these 9 factors to get a number from zero to nine. That number is the basis for everything to come.

How the F-score study was set up

Many of these academic papers are hard to understand and so is their methodology. For example, Piotroski picked a period of time 1976 through 1996. And then he evaluates which firms have sufficient data to study. These are important points that I will return to later.

He divided the companies into quintiles or 20% groupings based on price to book value (book to market is the inverse that academics use). He would randomly create a pseudo portfolio of companies that fit into different categories and then look at results of his F-score on the companies. As Piotroski states, “most of the observations are cluster around F-scores between 3 and 7, indicating that a vast majority of the firms have conflicting performance signals.”

Why Piotroski value investing is so great

So what did Piotroski find? He found that a low price to book investing strategy can be improved by at least 7.5% per year using by picking high F-score companies. Hi F-score companies were defined as having an 8 or 9. Low F-score companies have a value of 0 or 1. A value investing strategy that bought high f-score and shorted low F-score companies theoretically generated a 23% annual return between 1976 and 1996. My reading of the paper also yields that 1 year mean return for F-score companies from 6 through 9 was 11% and higher. Two year market adjusted returns of high F-score companies were 16% above the market. So is there anyway using his data to goose these returns. Sure.

1 year market adjusted returns were significantly better when buying the smallest third by market cap: 17.9%.  Significantly the drop off in returns again occurred below an F-score of 6. The mean return for 6 and 7 were actually higher (18.2%) than for 8 (17%). Low trading volume also boosted returns for high F-score companies 16.7%. And high f score companies that have no analyst following had a median 18% return in a market adjusted returns.

The American Association of Individual Investors has a screen that is a version of this strategy. The purported results shown have had astronomical returns. It has shown a ten year return of 26.3% annually vs. .6% for the S&P 500.

Misuse of  Piotroski’s F-score

One of the most shocking things I learned is that even though the F-score is not new, even to many value investors, its correct implementation is. Perhaps, people are looking for a quick fix and so they often start by ignoring the screen that Piotroski ran before evaluating companies with his 9 questions. To achieve the best results previously mentioned an investor must screen for the bottom 20% of price to book value stocks. Remember Piotroski was trying to sift the best from the bad.

How the F-score is misused. First, his research really only showed that it has significant predictive value among the bottom 2/3 of market capitalization. It doesn’t really work on large cap stocks. So if you try to apply the F-score to a large cap stock with a high book value, it isn’t going to help. Be sure you understand how to properly use the F-score to assist in value investing.

The normal idea in investing that increased risk is at the heart of higher returns seems to be incorrect in the case of the high F-score companies. Since the companies are low price to book companies, they should be higher risk, but their financial soundness actually shows them to be less risky. Interestingly, in his conclusion, Piotroski seems to say that he doesn’t have all the answers, it doesn’t “find the optimal set of financial ratios for evaluating the performance prospects of individual value firms…”

A few instances where I have seen incorrect use of the F-score. The Graham Investor has an F-score screener that does not screen first by low price to book. This gives the impression that there are numerous F-score 9 companies available, but in fact that there were only a handful of high F-score stocks trading this week.

Should you use the F-score and become a Piotroski value investor?

One of the things that makes this difficult to answer is the previous results I have written about. They are very alluring. But the problem with academic studies is they are often difficult to realize in the real investing world.

Are you really willing to invest at one time a year to make a system work? What if the companies that Piotrowski excluded because of insufficient data would have created a different result?

Does the small size of the firms and liquidity of trading make it difficult if not impossible to get a “real” f-score portfolio?

These are good questions, even if I had to ask them.

They are reason that I would not, personally, use the F-score alone. But I don’t use as a solo investing criteria, but use it as part of my 80-20 value investing strategy.  Another problem is that like Net Net stocks, when the market gets expensive there are often a paltry few to choose from. A low F-score may also be an important factor to use, like the Altman’s Z score, to rule out a potential investment, which can help reduce downside risk.

If you are a value investor, you many already be looking at small to mid cap companies with very low price to book ratios and no analyst coverage. If so, think of the f-score as a valuable addition to your value investing toolkit, like attending a value investing conference, or using the right value investing software.

Related Posts:

• Value Investing Ideas – Companies Passing my Custom Screens
• Warren Buffett’s advice in a Crisis
• Best Value Investing Screeners
• Real Returns are the only Returns that Matter
• Pareto’s Principle – A Name for an Old Rule

What?

If you compare an asset, say stock in a company, to a market, say the S&P 500, you can establish a relationship between them. For example a beta of zero means that the stock will move independently of the market. A beta of one means they are perfectly correlated.

Beta is also mistakenly used as a description of risk. As Ben Graham said, “Beta is a more or less useful measure of past price fluctuations of common stocks. What bothers me is that authorities now equate the beta idea with the concept of risk. Price variability yes; risk no. Real investment risk is measured not by the percent that a stock may decline in price in relation to the general market in a given period, but by the danger of a loss of quality and earnings power through economic changes or deterioration in management.”

Amen, brother. Sometimes it is better to let Ben Graham speak and get out the way.

Another thing to remember, in a crisis all assets have a beta of one.

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His hedge fund, Pershing Square Capital, founded in 2003, often fights to gain seats on a company’s board of directors, and then presses for changes. Usually, really big ones. He has been compared to Carl Icahn, only more charming. His modus operandi is to get a company to sell its real estate or corporate divisions. The proceeds of the sale are then returned as dividends, followed by a higher stock price. Pershing then unloads its position at the higher stock price.

Bill’s business career has been “interesting” since he started in 1992. Ackman co-founded Gotham Partners with fellow Harvard class mate, David Berkowitz. The fund invested in private companies and real estate concerns.

In the early years, a series of smart bets resulted in double digit returns being posted. By 1998, Gotham Partners held more than $500 million in assets.  Fueled by this success, the pair made a fatal mistake of buying a controlling interest in a golf course operator that constantly bled cash.

In order to buy more golf courses, more debt was added.

Financial indigestion resulted. To pay off the debt, Ackman tried to merge First Union Real Estate, a cash flush business in which he held a controlling interest with his golfing concern, only to meet resistance from the minority shareholders who felt shortchanged.  A New York judge agreed with them and overturned the merger in 2002. This was the killer blow to Gotham Partners in 2003.

One of Ackman’s much publicized and profitable corporate battles was with MBIA which began 2002, over their AAA rating. Even though Eliot Spitzer investigated Ackman he was eventually vindicated when the 2008 subprime crises hit, and Pershing Square Capital made billions by shorting MBIA. It showed a couple of things about Ackman. He was willing for others to think he was wrong, dead wrong. And he was colossally tenacious. His experiences with MBIA were featured in a book, Confidence Game.

Perhaps his biggest success was his investment in General Growth Properties which he bought at $1 and yielded a 1500% return after it emerged from Bankruptcy.

His investment style does make headlines; Bill Ackman can also be called a “newsworthy” investor. Most recently he has invested in the mid level JC Penny retail chain with a 16.5% stake in the company, which may be rising to 26% now that he has a seat on the board. With 41 million square feet of company owned retail space, Ackman will probably attempt to “unlock” some of the value of this real estate. Or he will attempt to turn the company around since he brought in a former Apple Executive in charge of retail sales to lead the retail behemoth.

Bill Ackman will be one of the featured speakers at the Value Investing Congress on October 17-18^th in New York. I hope you will join me there. If you would like more information about this or other Value Investing Conferences you can go to my Conference page.

Disclaimer: I will be attending the Value Investing Congress in October since I am a media sponsor. I don’t own any of the stocks mentioned in this article. I may change my mind at any time and subsequently purchase an equity mentioned if I find it fits my investing strategy.

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I promised that I was going to be adding more value investing features to this website. One of them is going to be a weekly list of companies that pass a few of my custom value investing stock screeners. Each week I will highlight a different custom Value Investing screen I use when deciding to do further research on a company. This week I will highlight the 80-20 Screener;

80-20 Value Investing Screen

80-20 value investing Screen 8-19-11

I have attached a screen shot of part of my custom 80-20 Value Investing stock screener using Stock Investor Pro screen which is comprised of the following value investing elements:

Low Price to Book Value

1. Price to Book ratio in the bottom 20% of stocks screened. I have documented the low price to book strategy in the past.

High Piotroski F-score

2. a Piotroski F score of 7 or better. ( I will be high lighting this study in an upcoming article, that will be a must read article!) This helps weed out some of the worst companies.

Low growth in assets

3. The annual growth in total assets should be in the lowest 20% of companies screened (currently negative double digit asset growth). Studies have shown that companies with the lowest 20% of growth in assets outperformed the market as a whole.

Pass the Z-score

4. A passing score on the appropriate Altman Z score. That means above 3.o for Manufacturing companies and 2.6 for other companies.- This is for downside risk protection since the Z score helps warn of potential bankruptcies.

Good Net Current Asset Value

5. Net Current Asset value equal to or greater than 1.25 times market cap. I am looking for companies with assets close to NCAV.

Current Price Earnings Historically Low

6. Ratio of current P/E to 7-10 year P/E is less than 1.  I borrowed the next two criteria from James Montier.

Low Price to Sales

7. Price to Sales ratio  less than 1.

The purpose of this to aggregate multiple value investing criteria

Value Investing Ideas

I have not yet investigated any of the stocks on this list, but I intend to begin to evaluate at least one of the stocks a month beginning in the next couple of weeks, so please return.

Highlights of this weeks value investing screener.

Benchmark Electronics BHE is a new entry to this list and worth a look.

Several of these stocks trade with almost no volume or have very very limited financial information. Some of those include Chai-na-Ta Corp. CCCFF, Elegant Illusions EILL, Sonics& Materials SIMA.

Satyam Computers SAYCY is an Indian company that had a very large accounting scandal, so unless the issue of assets has been resolved satisfactorily, may be a false positive to passing the screen.

Good luck on your research, if you choose to take these companies to the next level of research. If you do, please report the results here.

Disclaimer: I do not currently have any holdings of any of the companies listed on the screener. I may without notice buy one of these equities, if I find it fits my investing needs. Nothing in this post or this website should be construed as investing advice. I am merely expressing my opinion and sharing what interests me in the value investing arena. Please do your own research.

Related Posts:

• 3 Must haves for your Value Investing Notebook
• Best Value Investing Screeners
• Real Returns are the only Returns that Matter
• 80-20 Investing – the Portfolio
• Great Value Investing Strategies – Piotroski’s F-score Investing

Stock Screeners are software that sort through a number of facts about companies using specific criteria. This sifting or “screen” acts as a sieve to filter out undesirable companies. To busy investors a good value investing stock screener is essential Investing software. They help cull the herd and target what an investor is specifically interested in. For example, in last weeks Value Investing Criteria that works Low Price to Free Cash Flow I wrote about a back tested theory that used Dow Jones Industrial Average Companies that have a Price to Free Cash Flow of less than 15. If you set up a custom value investing screener for those criteria, the only companies that would pass the criteria  are displayed.

Some stock screeners  have just a few items to choose from. For these to be useful they should have at least one very compelling criteria that is not available elsewhere. Other value investing screeners have a multitude of inputs and customizable screening inputs and calculations that enable you to create completely custom screens. Any stock screener is just one of many ways to find potential investing candidates. The important thing to remember is that Stock screening is just the first step. It is not a magic bullet. You will need to do additional research and most importantly double check that the screen worked correctly and that the companies that passed are up to your investing standards.

My favorite Value Investing Stock Screeners:

I have broken these down into categories. Let’s start with the cheap and the easy and move toward the expensive and complicated.

Free Value Investing Screeners

General Stock Screeners

Bing Finance -

Bing took over for MSN and their screener has several preset Value Investing screeners, including Value, Contrarian, Dogs of the Dow etc. The main advantage of this stock screen is its simplicity. A great one to get your feet wet, but you will quickly run into its limitations.

Morningstar

There was a time I relied on Morningstar for my preliminary financial data.  Until I realized that they did not always have accurate data and their customer response to complaints on this front was underwhelming in the least.  They still have a basic free stock screener, which might we worth a look at since, you can utilize some of Morningstar’s evaluations on financial health, growth etc. I do not recommend their premium screeners or information.

Specialized stock screeners

Motley Fool CAPS

The Motley Fool Caps has a very simple stock screener. You can’t do a whole lot with it, but I like it because you can incorporate the CAPS rating system into their screen, which is interesting since a study showed that is a useful ally in outperforming the market. The whole wisdom of the crowds idea.

Magic Formula Screeners

Magic Formula

The Magic Formula website has its own screener. The parameters are essentially the market cap. That’s it! Starting with $50 million and sliding up. It spits out companies that pass the Magic Formula screen. Interesting when coupled with other criteria, although I don’t use it by itself. As I have written about in the past some of the companies that pass the screen can be speculative in nature. That is why you need to take the results and apply another screen to it or evaluate using different criteria.

Alternate Magic Formula -

this is some version of an alternate  magic formula that someone set up that has higher liquidity and market cap requirements than the official Magic Formula site. I think it is interesting and if liquidity is really important to you this might be helpful.

NCAV – Net Net Screeners

Graham Investor screener is another free set of value investing screeners that are definitely flawed. The Piotrowski screener does not follow the F-score study suggestions, so is likely less than optimal. They have two Net Net Screeners based on shares outstanding and float. I use it occasionally since interesting companies show up on these screens, but many are not really Net Nets, so be careful and do your own follow up work.

Super Low Price Value Investing Stock Screener

American Association of Individual Investors stock screens – Not all the aaii screens are value investing screeners, but many are. For more detail see my post on value investing screeners. Free to members. $25 yearly fee. Highly recommended for beginning value investors. The screens are all pre-set and you can’t customize unless you buy the premium software they also sell Stock Investor Pro.

Premium Stock Screeners

Stock Investor Pro

SIP is a premium screening software package that the AAII offers to its members for $198/year and $248/yr for non members. It is an amazing piece of software. It is very customizable and I have more than a dozen custom screens I have developed using this Stock Investor Pro. There are two drawbacks. The data is updated once a week on Saturday, from the aaii site. The bigger problem for me was that it is PC only. I have to run a PC emulator known as vmware to run the program on my Mac. I have gotten over it, but the interface is very inelegant and PC looking and has no real design. All that said, since I started using SIP I almost don’t use any other screeners.

Gurufocus

Gurufocus has several value screeners that are part of their premium $249/yr. services. These are largely value investing screeners including NCAV screener, low price to book, low price to sales, and Undervalued Companies, they do offer one free screen called 52 week lows. I use their premium services for their newsletters more than their screeners, but if you subscribe to the newsletters you have the stock screeners for free.

Value Investing Europe

This premium value investing screener has several interesting screens including Piotroski F score screen, The Graham Investor has one as well but it is implemented incorrectly (doesn’t screen for low price to book first before looking at F score), Value Investing Europe does screen correctly, their screens are not limited to Europe, they also include the United Kingdom,  US and Japan as well. The price, just for the screeners is 249 Euros/yr. They also offer newsletter services.

 Ultra Premium Stock Screeners

Capital IQ-

This ultra expensive but terrific stock evaluation software is so expensive that it is not appropriate to small time value investors, and the only beginners that it would be appropriate for are investors with large portfolios.

No matter what your budget and your needs their is some value investing screener out there that will fit.

Related Posts:

• Value Investing Ideas – Companies Passing my Custom Screens
• 3 Must haves for your Value Investing Notebook
• Best Value Investing Screeners
• Investment Leads – 52 Week Lows
• Free Value and NCAV Screeners

What is Low Price to FCF?

Two of the most important words in evaluating a company are Cash Flow. Old School Value Investors focused on Earnings. That is so 1950’s. I am not going to go into the details of Free Cash Flow. Please see the Chroma Investing Value Investing Terms FCF for a fuller explanation than I give here. The short version is that Free Cash Flow is what a company really has left over at the end of the year. It is the amount that you can turnover to investors in dividends, buy back stock, pay down debt or just let sit on your balance sheet.

Low Price to Free Cash Flow (P/FCF) is a measure that value investors find useful to analyze companies finances in relation to it’s current stock price. It is a stricter measure than the price-to- operational cash flow ratio as it backs out capital expenditures.  Here is the simple equation:

                                    Price to FCF = Market Cap / Free Cash Flow

A high ratio indicates that a company is expensive relative to its Free Cash flow. A low ratio shows that it is cheap in relationship to FCF. Like most of these value investing metrics you can reverse these and you will get the Free Cash Flow yield which is expressed as a percentage. With a Free Cash Flow yield, higher is better.

Simply put, Free cash flow is a measure of a company’s ability to generate cash, which is a starting point for stock pricing. Or as Warren Buffett said, “Intrinsic value can be defined simply: It is the discounted value of the cash that can be taken out of a business during its remaining life.”

An easy formula for free cash flow is, FCF = Operating Cash Flow – Capital Expenditures. The numbers needed for the calculation are found on the Cash Flow Statement of the Financial Reports that a company issues in its 10K or 10Q.

How to use P/FCF in an Investment?

Let’s say you agree that using FCF can help you make your value investing decisions,  how might you go about it? Here are a few suggestions.

1. You can buy stocks in companies that are low in Price to FCF as compared to the market as a whole. That is you can compare the P/FCF of a company to that of the overall market. For example you could compare the FCF ratio of General Electric to the S & P 500. Although, I could not find this information on Standard and Poor’s own website.

2. You can compare Free Cash Flows to some arbitrary number, say 10 or 15. You may want to do this if you can come up with some historic norm for Free Cash Flow.  If you can review historical data of FCF over a long period of time, it is possible to come up with a normalized ratio. You could use that number as your comparison.  Again, this will be difficult since historic data for Free Cash Flow is difficult to obtain very far back.

3. You can buy a stock using P/FCF either as a solo investing criteria(not recommended) or in combinations with other factors. For example you might use FCF ratio with such metrics as low price to book, a high acid test ratio, high ROIC, etc.

4. You can buy a stock when a company has a Low P/FCF in relationship to its own 5, 7 or 10 year financial history. I always like to compare current ratios to historic ones to get a relative idea if this metric is cheap for this particular company.

5. You can buy the stock of a company who Price to Free Cash flow is low relative to its industry. In other words you take a look at Exxon’s FCF ratio and compare it to the oil industry as a whole to get a relative industry ratio.

6. You can buy a fund that specializes in Low Price to FCF. This may be an index mutual fund or an ETF. I don’t know of any pure play funds on Low P/FCF, since most value funds use a combination of factors, but perhaps there is one that has escaped my notice.

So, why is low price to free cash flow so important, that it is worth investing?

Importance of Low Price to FCF

Low P/FCF has been a good indicator in the past of what makes a successful investment moving forward. Let me give a few examples.

Peter George Psaras wrote a study called “Back-test showing the power of Price to Free Cash Flow in the Investment Process” where he back tested buying Low Price to Free Cash Flow stocks from the Dow Jones Industrial Average for 1950 to 2007. His criteria was simple: buy every stock that had a Price to FCF ratio less than 15 and sell it after a year. The results were remarkable. The performance was 22.77% on average over the 58 years. The average gain for the DJIA was only 7.82% for the same period.  Quite an outperformance

I asked myself the question, what does this mean right now? So I created a stock screen with Stock Investor Pro using data from last Friday August 5^th. Here are the companies passing the screen:

I am not recommending any of these companies, but it does give you some idea why some high profile value investors are interested in Microsoft, Pfizer and Cisco to name a few. Perhaps a few of these companies are worth some further research.

Other investing studies have used the less stringent  Low Price to Cash Flow ratio (P/CF). Let’s see if there was a similar outperformance.

Does Low Price to Cash Flow work in shorter time Frames?

In their study, “Contrarian Investment, Extrapolation and Risk, Josef Lakonishok, Robert W. Vishny and Andrei Shleifer reviewed all the companies on the AMEX and NYSE from 1968 to 1990. They divided up the companies in to ten selections called deciles by Price to Cash Flow. They formed portfolios that they kept for five years. What they discovered is that the lowest Price to Cash Flow stocks outperformed the highest  Price to cash flow stocks on average during a holding period of 5 years. The average return for the  low P/CF stocks was 20.1% per year and amongst the high P/CF stocks it was only 9.1% with cumulative 5 year return of 149.4% to 54.3%. Perhaps not as exceptional as the Psaras study, but significant none the less.

This is one of those studies that is useful only in the abstract. Realistically an investor is not going buy the lowest  10% of p/cf companies on any exchange.  But it does continue to show that when you are considering value investing metrics that P/FCF should remain in the toolkit.

Low Price to Cash Flow Internationally

All this may be well and good in the United States, but do these kind of value investing metrics work abroad? A Michael Keppler looked at this in his study “Further Evidence on the Predictability of International Equity Returns: The Importance of Cash Flow in Country Selection.” While he did not use FCF specifically, it is instructive. He found that from 1970 to 1989 in the eighteen countries studied that the lowest price to cash flow country indexes produced a result of 19.2% on average in local currencies compared to the highest Price to cash flow country indexes with a return of only 4.7 % in local currencies.

Since this was based on buying index funds this study has an actionable element. But it would require a little research. You don’t think I am spoon feeding you everything, do you? An investor could research index funds based on different countries stock markets. They would need to have P/CF information on each index (preferably FCF). Compare the indexes and pick a small basked of low cost to cash flow indexes.

If anyone does this research please report back.

Why does Price to FCF work as a Value Investing Metric?

No one knows for sure but here are a couple of my guesses.

1. Companies with low prices related to any value metric, Earnings, Book Value, Sales etc. are unpopular. Otherwise their price wouldn’t be low. Something is bothering the market, bothering it so much that it MAY be undervalued. Low Price to FCF investments are a contrarian investment by definition, and mostly people want to say they own Apple or Netflix, not Aeropostal or Microsoft.

2. Cash Flow may be more honest than earnings, a commonly used measure of a companies performance. As Damodaran said in his book Investment Fables, “Accountants measure earnings by subtracting accounting expenses from revenues. To the extent that some of these expenses are non-cash expenses … and because accrual accounting …does not always yield the same results as cash accounting, accounting earnings can be very different from cash flows.” (Italics are mine)

Having a healthy Free Cash Flow gives a company options. It is a sign of a financially sound company thriving in its industry. Free cash flow is often used for stock buy backs, dividend payments and in reducing debt.

Finding such companies is usually easier in a bear market ( like now) or when a company misses earnings, makes a mistake which leads to bad press, all of which can temporarily depresses its stock price. Investors finding such opportunities should, as they say, “strike while the iron is hot”.

Please come back each week as we write about various Value Investing Criteria to help you build your Value Investing arsenal. Add your comments if you have any thoughts about using  Low Price to FCF in investing. Finally, if you haven’t already done so, please sign up for email list (I promise I won’t spam you.) or like ChromaInvesting on Facebook.

Disclosures: I do not have any financial interest with aaii.com or Stock Investor Pro, but I am a paid member of the first and I have purchased the second for the past two years. I am making no recommendations on stock purchases or sales, just expressing my opinion on what I am exploring right now. I am not a professional investment advisor but a Film and television producer, thus everything here is for entertainment purposes only.

If you would like to download post you can here.

Related Posts:

• Free Value Investing Resources- Graham and Doddsville
• Greenblatt, Ackman & Value Investing Masters speak at the Value Investing Congress
• Underperformance in a Fund, Time to Invest?
• Lessons Learned from Mike Burry
• Investing in Low Price to Book Stocks- Value Investing Series

Buffett Quotes

“Investors should remember that excitement and expenses are their enemies. And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy when others are fearful. ”

“Never count on making a good sale. Have the purchase price be so attractive that even a mediocre sale gives good results.”

“Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down. ”

“The most common cause of low prices is pessimism – some times pervasive, some times specific to a company or industry. We want to do business in such an environment, not because we like pessimism but because we like the prices it produces. It’s optimism that is the enemy of the rational buyer. ”

Conclusions

I know I have been quoting Warren Buffett, but another analogy, that comes from Ben Graham may be more in order and that is of Mr. Market. Mr. Market is panicked right now and he is starting to hand out bargains. Because he is panicked doesn’t mean we need to be. My equity portfolios are down like everyone else’s, but I have had nearly a third in cash in my IRA in cash and 80% in cash in the two investing accounts for Chroma Investing: the Small Investor Portfolio and 80-20 Investing Portfolio.

Take another look at your watchlist and you may see investing opportunities that did not exist a few weeks ago. That is what I am doing.

Related Posts:

• Best Value Investing Screeners
• Value Investing Strategies for the Small Investor and 80-20 Portfolios
• Ben Graham’s Stock Selection Criteria – Value Investing Series
• Great Value Investing Strategies – Piotroski’s F-score Investing
• Value Investing Ideas – Companies Passing my Custom Screens