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Definition

How is the Piotroski or F-Score calculated?

Profitability

1. Return on assets (ROA)

Net income before extraordinary items for the year divided by total assets at the beginning of the year.

Score 1 if positive, 0 if negative

2. Cash flow return on assets (CFROA)

Net cash flow from operating activities (operating cash flow) divided by total assets at the beginning of the year.

Score 1 if positive, 0 if negative

3. Change in return on assets

Compare this year’s return on assets (1) to last year’s return on assets.

Score 1 if it’s higher, 0 if it’s lower

4. Quality of earnings (accrual)

Compare Cash flow return on assets (2) to return on assets (1)

Score 1 if CFROA>ROA, 0 if CFROA

Funding

5. Change in gearing or leverage

Compare this year’s gearing (long-term debt divided by average total assets) to last year’s gearing.

Score 1 if gearing is lower, 0 if it’s higher.

6. Change in working capital (liquidity)

Compare this year’s current ratio (current assets divided by current liabilities) to last year’s current ratio.

Score 1 if this year’s current ratio is higher, 0 if it’s lower

7. Change in shares in issue

Compare the number of shares in issue this year, to the number in issue last year.

Score 1 if there is the same number of shares in issue this year, or fewer. Score 0 if there are more shares in issue.

Efficiency

8. Change in gross margin

Compare this year’s gross margin (gross profit divided by sales) to last year’s.

Score 1 if this year’s gross margin is higher, 0 if it’s lower

9. Change in asset turnover

Compare this year’s asset turnover (total sales divided by total assets at the beginning of the year) to last year’s asset turnover ratio.

Score 1 if this year’s asset turnover ratio is higher, 0 if it’s lower

Evaluation

Piotroski or F-Score = 1 + 2 + 3 + 4 + 5 + 6 + 7 + 8 + 9

Good or high score = 8 or 9

Bad or low score = 0 or 1

Explanation

The developer of the system is Joseph D. Piotroski is relatively unknown accounting professor who shuns publicity and rarely gives interviews.

He graduated from the University of Illinois with a B.S. in accounting in 1989, received an M.B.A. from Indiana University in 1994. Five years later, in 1999, after earning a Ph.D. in accounting from the University of Michigan, he became an associate professor of accounting at the University of Chicago.

In 2000, he wrote a research paper called "Value Investing: The Use of Historical Financial Statement Information to Separate Winners from Losers" (pdf).

He wanted to see if he can develop a system (using a simple nine-point scoring system) that can increase the returns of a strategy of investing in low price to book (referred to in the paper as high book to market) value companies.

What he found was something that exceeded his most optimistic expectations.

Buying only those companies that scored highest (8 or 9) on his nine-point scale, or F-Score as he called it, over the 20 year period from 1976 to 1996 led to an average out-performance over the market of 13.4%.

Even more impressive were the results of a strategy of investing in the highest F-Score companies (8 or 9) and shorting companies with the lowest F-Score (0 or 1).

Over the same period from 1976 to 1996 (20 years) this strategy led to an average yearly return of 23%, substantially outperforming the average S&P 500 index return of 15.83% over the same period.

Financial Dictionary

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