financial forecasting and fop

8/6/2019 Financial Forecasting and FOP

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Financial Analysis,Forecasting and Planning

Financial Analysis

Financial Forecasting

Financial Planning



³Analysing Financial Condition´

Maintain existingservice levels

³financial condition can be broadly defined as a

LG¶s ability to finance its services on a continuingbasis. More specifically, financial condition refersto a LG¶s ability to (1) maintain existing servicelevels, (2) withstand local and regional economic disruptions, and (3) meet the demands of natural

growth, decline, and change.´

Withstand local

and regionaleconomic

disruptionsMeet demands of natural growth,

decline andchange



Framework for Evaluating Financial

Condition Budget, balance sheet and other financial

statements fails to provide multiyear perspectiveof emerging good or bad Financial Condition of LG

Most financial problems do not develop suddenly

A decline in revenues An increase in expenditure pressures, Decreasing cash and budgetary surpluses A growing debt burden

The accumulation of unfunded liabilities The erosion of capital plant A decline in tax base or an increase in the

need for public services



Framework for Evaluating

Financial Condition Need to ask following questions -

Can the LG continue to pay for what itis now doing?

Are there reserves or other ways forfinancial crisis?

Is there enough financial flexibility toall the LG to adjust to change?

If LG can meet these challenges, itis having a sound condition



Environmental/ Organisational

Aspects of Financial Condition External Economic Conditions

Inflation

Employment

Economic wealth

Interest rates

Intergovernmental Constraints National constitutions

Laws

Natural Disasters and emergencies

Political Culture



Practices and policies that

jeopardise financial condition Repeated use of one-time revenue

resources ± reserves, sale of assets etc

Deferring a large amount of current costs

to the future deciding ± maintenance,pension

Ignoring long-range or full life cost of aliability ± purchasing assets with examining

long term costs These practices can ±

Create problems or

compound existing problems or

delay recognition of existing problems



Practices and policies that

jeopardise financial condition Practices that sustain an operating deficit

Use of internal borrowing

Selling assets

One-time accounting changes Practices that defer current costs

Deferred pension liabilities

Deferred maintenance expenditures

Practices that ignore full-life costs Non-salary employee benefits

Capital assets



Financial Forecast An estimate of future financial outcomes for an

organisation.

Undertaken using historical internal accounting

and sales data, external economic and marketdata and economic indicators etc.

A financial forecast is a best guess of what willhappen for a company over a given time

period. Predicting revenue rather than cost is most

difficult aspect

Can be undertaken by an outside researcher



Purpose of Financial Forecasting Two purposes

Quantifies the future impact of current decisions,programs and policies (impact analysis), and

Identifies and provides information for analyzing the

revenue and expenditure adjustment options neededto close the difference between revenues andexpenditure (gap analysis)

Forecast relies on

Policy assumption for impact analysis

Economic assumptions for gap analysis Budget is balanced estimates while forecasting tend to

be unbalanced one



Benefits of Financial Forecasting Link the LG¶s policy with specific financial

plans to achieve a governing body¶s long-range strategic goals

Develop a picture of the LG¶s financialfuture and create more time to respond toadverse events

Prepare the LG for shifts in responsibility

Improve the quality of financial decisionmaking

Develop alternative decision strategies



Obstacles, limitations of Financial

Forecasting P olitical and staff resistance

Changing LG revenue system

Lack of development time

Lack of knowledgeable and skilled personnel

Lack of historical data

Dilemma of circularity Importance of assumptions



Types of Financial Forecasts Short

Term

MediumTerm

LongTerm

Short-term Medium-term

Long-term

Number

of years

0-1 year 1-5 years 10+ years

Use Operatingbudget

Cashmanagement

Monitorbudgetimplementation

BudgetingPolicyanalysisFiscal impactof legislation

Identifyfinancialtrends Capitalinvestmentprogramming

StrategicplanningPhysical andeconomicdevelopment

planningFiscal impactanalysis



Methods of Forecasting Expert or Best Judgment

Trend

Deterministic Econometric



Comparison of Forecasting MethodsMethod Advantages Disadvantages

Expert or

Best

Judgment

y Produces reasonably

accurate forecasts.

y Relatively low costs.

y Lack of an explicitly stated

technique makes it difficult to

determine what was right or

wrong when analyzing the

forecast methodology.

y Dependence upon a single

individual may hamper LG¶s

effectiveness if that person

leaves the organization.y Likely to prove weak when the

forecast is extended beyond one

year, because of the greater

number of factors that must be

taken into account.



Comparison of Forecasting

MethodsMethod Advantages Disadvantages

Trend y Simple technique

to use.

y Fairly accurate predictor of the

next one or two

future years.

y Reliable tool for

revenues andexpenditures not

sensitive to

economic

conditions.

y

Inexpensive.

y Does not predict a turning

point in a variable (i.e., it

will continue to projectincreases [decreases] in the

variable regardless of what

the economy does because

it is historically based.)

y Not useful in policyanalysis (i.e., to anticipate

economic or demographic

changes in the

community.)



Comparison of Forecasting MethodsMethod Advantages Disadvantages

Determini

stic

ySimple to use.

yAccurate for revenue and

expenditure short and medium

forecasts for variables not

subject to changes in economic

conditions.

yUseful for economically

determined variables over long

periods of time because changes

in business cycles tend to cancel

out and averages become more

dependable.

yAccurate and suitable for

forecasting growing areas.

y

Inexpensive.

yRelies on fixed relationships

between inputs and activities.

yUses averages as a major variable

in the forecast, making it less

responsive to changes in the

economy.

yDepends on assumptions usually

based on experience.

yLess likely to accurately forecast

revenues and expenditures in areas

of decline using the deterministic

method



Comparison of Forecasting

MethodsMethod Advantages Disadvantages

Econome

tric

yOnly methodology that lends itself to

projecting revenues or expenditures based

on changes in the economy.

yMore accurate than other techniques

because, unlike the best judgment method,

it is based on behavioural relationships that

can be measured and evaluated.

yIt (regression technique) is not limited to

forecasting in one direction like trend line

techniques.

yTests whether a relationship between

variables is, in fact, statistically significant.

yConsiders multiple variables in making

projections rather than the single variables

in deterministic techniques.

yMore costly.

yRequires a person trained

in economics and statistics

to develop the forecasting

equations.

yRequires considerably

more time for data

collection and input for

regression analysis.

yMore complex than the

other alternatives and has

more potential for errors.



Steps in Financial Forecasting Step1: Define the Purpose

Step 2: Address Citizen Input/ TechnicalIssues

Step 3: Decide your approach toForecasting

Step 4: Determine Data and Information

Requirements Step 5: Determine Resources

Step 6: Management and Political Support



Steps in Financial Forecasting Step 7: Determine length of Financial

Forecast

Step 8: Evaluate methods of forecasting

based on length of forecast Step 9: Decide on approach for Forecasting

Revenues

Step 10: Decide on approach for

Forecasting Expenditures Step 11: Combine Revenue and

Expenditure Forecasts

Step 12: Understand linkages to otherplanning efforts



Financial & Operating Plan



The Financial & Operating Plan Features of the FOP

Determines ULB¶s priority objectives in terms of resources, service provisioning and management

aspects in the medium to long term Objective is to reach a level wherein there is an

optimisation of what the local financial situation canpermit in terms of raising levels of services

Components of the FOP Multi-Year Investment Plan

Income & Expenditure Plan

Capital Investment Plan

Debt-servicing Plan



Multi-year Investment Plan (MIP)Multi-Year scheduling of public physical

improvements and investments- withassociated O&M expenditure plans

Derived from a demand-supply gap analysishinged on city VISION/ GOALS

A long list of projects that the ULB intends to takeup for the City

Phased based on City priorities

Would facilitate annual capital budgeting exercise,that is responsive to city needs

Would form the base for planning for prudent fundallocation and revenue enhancement



Income & Expenditure Plan Features of Income & Expenditure Plan

Projection of revenue income

based on assumptions w.r.t base, basis and rules

of taxation & charges, efficiency in revenuerealisation and nominal growth rates

incorporates additional revenue from remunerativeprojects of the MIP

Projection of capital income

based on scheme-based grants from State/ CentralGovernment

based on funding pattern (loan-grant mix) adoptedfor the MIP



Income & Expenditure PlanProjection of revenue expenditure

based on past trends/ rules for salary and otherestablishment expenses, estimated charges for

O&M of infrastructure services, past trends,clearing of overdue and regular liabilities

incorporating additional O&M expenditure due tothe MIP

incorporating additional debt-servicing burden due

to borrowing plan for funding the MIPProjection of capital expenditure

based on the scheme-based grants received fromState/ Central Governments

based on the MIP



Capital Investment Plan (CIP) Features of the CIP

Sized MIP for public capital facilities catering to city¶sneeds/ priorities based on investment sustaining capacity

Arrived through an iterative process of Income & Expenditure Plan and and MIP sizing/ prioritizing

Objective is to reach a level wherein there is anoptimisation of what the ULB¶s Fund can sustain in termsenabling capital investments/ raising levels of services

CIP provides a framework for annual budgeting and hencerequires constant updating

CIP is based on

Investment sustaining capacity

Choice of specific improvements to be made



Debt Servicing Plan Features of the Debt Servicing Plan

Annual borrowing plan- linked to ULB borrowingpowers

Annual debt-servicing commitmentRatios/ indicators of debt-burden

Significance of the Debt Servicing Plan

Indicates the credit-worthiness of the ULB

Lenders¶ requirement- to assess the risks onlending

Helps ULB & Lenders to structure the debt

Helps ULB to restrict debt exposure to safe levels



Working of the FOP1- Service Levels

Contains details of

existing levels of serviceprevalent in the town/ city

4- Service Norms- based

on sectoral strategies

Compares the indicators

of the current service

levels in the town/ city

with the recommendedlevels/ norms

6- Project Costing (MIP)

Determines capital

investments (based on

unit costs) and

associated O&M for

achieving desired

service standards

2- Actual Financial Data

Basic input sheet with

provisions for entry of the

actual financial data as

made available with the ULB

in the Municipal Accounting

Code format

debt terms.

7- FOP Assumptions

Provides for entry of the assumptions

for:

� projecting the income & expenditureof the ULB- current items & new items

due to CIP

� funding pattern for the CIP and the

debt terms.

3- Municipal Finances

Contains the summary of the

Municipal Fund and consists

of consolidated income &

expenditure statement under

revenue & capital accounts;analysis of income &

expenditure- sectoral

contributions; growth trends;

per capita levels

8- Income & Expenditure Plan (5-10

Years)

Contains the item-wise projected

income and expenditure of the

Municipal fund under different

budgeting heads

9- Capital Investment Plan (5-10

Years)

Contains the Capital Investment Plan

for the ULB based on investmentsustaining capacity of the ULB.

10- Debt Servicing Plan (5-10 Years

Contains the debt drawl and

servicing plan of the ULB based on

the o/s debt liabilities and the

funding pattern for the CIP

5- Demand-Supply Gap

Analysis

Estimates at the macro

level, the gaps in service

levels, which need to be

converted into projects



Financial Planning

Thank you

And Happy Learning

financial forecasting and fop

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