Ellsworth Financial Policies Analysis Model was developed by Richard Ellsworth based on his studies about financial policies while a professor at Harvard Business School and in his previous experience as treasurer at Kaiser Aetna. The model’s aim is to improve the integration of financial policies and organizational strategy, increase the capacity of financial policy response to the operational needs and explore alternative financial structures that can render the company more competitive. For that Ellsworth model, formed by four steps, explores different alternatives and helps to integrate financial planning and operational and commercial planning.
How to use the model:
The instructions to use the model are the following:
- Identify the critical principles underlying the financial policies, which can be performed through an answer to a series of questions that allow the origins and the logic basis of each financial policy principle:
- Which are the principles underlying the financial policies?
- Those principles are imposed by the top management or by the capital markets?
- Those principles are coherent with the opportunities and threats that are posed to the organization?
- Which way do financial policies affect shares value?
- Which are the results that validate these principles?
- Is there proof that they are not valid?
- Evaluate alternative financial policies through the analysis of its impact on the main value determinants for the shareholder. Value determinants for the shareholder are the following:
- Minimum profitability (measured in dividends and in capital gains) demanded by the shareholder given the risk level of each alternative capital structure and the investments program;
- Real profitability of the shareholder associated to each alternative capital structure;
- Real profitability growth rate for the shareholder.
A possible and simple approach is to calculate the changes for each one of the three factors only based on the company’s experience.
- Evaluate the financial managers’ duties (CFO). If the capital control is strict due to policies that don’t maximize value for the shareholders, such could be due to a lack of operational guidance and financial management. Ellsworth presents several measures to closer the CFO perspective to the organizational strategy:
- Base the compensatory incentives on the organizations’ performance;
- Identify CFO’s values and beliefs and verify if they are in accordance with the organizations’ aims and strategies;
- Choose CFOs with operational experience or provide to the current CFO that operational experience.
- Evaluate the operational managers’ duties in the financial policy decisions. Usually this duty is almost or completely inexistent. Ellsworth proposes some measures to evaluate the operational managers’ involvement in the financial management:
- Is there communication among the financial and operational managers referent to financial policy?
- Is there a formal vehicle so that the operational managers can express his worries and critics referent to financial policy?
- Operational managers propose regularly projects whose capital demands can need changes in financial policy?
If the answers to these questions are negative, Ellsworth defends that the operational managers’ worries are not represented in the financial policies and that probably exists a capital control implicit from the financial managers that prevents the organization to explore new options.