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Financial Analysis,

Forecasting and Planning

Financial Analysis
Financial Forecasting
Financial Planning
“Analysing Financial Condition”
“financial condition can be broadly defined as a LG’s ability to finance
its services on a continuing basis. More specifically, financial
condition refers to a LG’s ability to (1) maintain existing service
levels, (2) withstand local and regional economic disruptions, and (3)
meet the demands of natural growth, decline, and change.”

Maintain existing
service levels

Withstand local
and regional
Meet demands of
natural growth,
decline and
Evaluating Financial Condition –
some basic truths
 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
 Budget, balance sheet and other financial
statements fails to provide multiyear
perspective of emerging good or bad
Financial Condition of LG
Framework for Evaluating
Financial Condition
 Need to ask following questions -
 Can the LG continue to pay for what it
is now doing?
 Are there reserves or other ways for
financial crisis?
 Is there enough financial flexibility to
all the LG to adjust to change?
 If LG can meet these challenges, it
is 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 a
liability – purchasing assets without
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
 Undertaken using historical internal accounting
and sales data, external economic and market
data and economic indicators etc.
 A financial forecast is a best guess of what will
happen for a company over a given time
 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 needed
to close the difference between revenues and
expenditure (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 financial future
and create more time to respond to adverse
 Prepare the LG for shifts in responsibility
 Improve the quality of financial decision
 Develop alternative decision strategies
Obstacles, limitations of Financial
 Political and staff resistance
 Changing LG revenue system
 Lack of development time
 Lack of knowledgeable and skilled
 Lack of historical data
 Dilemma of circularity
 Importance of assumptions
Types of Financial Forecasts
Short-term Medium-term Long-term
 Short
Term Number 0-1 year 1-5 years 10+ years
of years
 Medium
Use Operating Budgeting Strategic
Term budget Policy analysis planning
 Long Cash Fiscal impact of Physical and
management legislation economic
Term Identify development
financial trends planning Fiscal
implementatio Capital impact
investment analysis
Methods of Forecasting
 Expert or Best Judgment
 Trend
 Deterministic
 Econometric
Comparison of Forecasting Methods
Method Advantages Disadvantages
Expert or • Produces reasonably • Lack of an explicitly stated
Best accurate forecasts. technique makes it difficult to
Judgment • Relatively low costs. determine what was right or
wrong when analyzing the
forecast methodology.
• Dependence upon a single
individual may hamper LG’s
effectiveness if that person leaves
the organization.
• 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
Method Advantages Disadvantages
Trend • Simple technique • Does not predict a turning
to use. point in a variable (i.e., it
• Fairly accurate will continue to project
predictor of the increases [decreases] in the
next one or two variable regardless of what
future years. the economy does because it
• Reliable tool for is historically based.)
revenues and • Not useful in policy analysis
expenditures not (i.e., to anticipate economic
sensitive to or demographic changes in
economic the community.)
• Inexpensive.
Comparison of Forecasting Methods
Method Advantages Disadvantages
Determinist •Simple to use. •Relies on fixed relationships
ic •Accurate for revenue and between inputs and activities.
expenditure short and medium •Uses averages as a major variable in
forecasts for variables not subject the forecast, making it less
to changes in economic responsive to changes in the
conditions. economy.
•Useful for economically •Depends on assumptions usually
determined variables over long based on experience.
periods of time because changes in •Less likely to accurately forecast
business cycles tend to cancel out revenues and expenditures in areas of
and averages become more decline using the deterministic
dependable. method
•Accurate and suitable for
forecasting growing areas.
Comparison of Forecasting
Method Advantages Disadvantages
Econometr •Only methodology that lends itself to •More costly.
projecting revenues or expenditures based on •Requires a person trained in
ic changes in the economy. economics and statistics to
•More accurate than other techniques develop the forecasting
because, unlike the best judgment method, it equations.
is based on behavioural relationships that can •Requires considerably more
be measured and evaluated. time for data collection and
•It (regression technique) is not limited to input for regression analysis.
forecasting in one direction like trend line •More complex than the other
techniques. alternatives and has more
•Tests whether a relationship between potential for errors.
variables is, in fact, statistically significant.
•Considers multiple variables in making
projections rather than the single variables in
deterministic techniques.
Steps in Financial Forecasting
 Step1: Define the Purpose
 Step 2: Address Citizen Input/ Technical
 Step 3: Decide your approach to
 Step 4: Determine Data and Information
 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
 Step 10: Decide on approach for Forecasting
 Step 11: Combine Revenue and Expenditure
 Step 12: Understand linkages to other planning
Financial & Operating Plan
 The name is self explanatory
 It is an attempt to create synergy
between operational and financial
 It inherently involves iteration process
Preparation of a
Financial Financial Plan for Understanding
Requirements Leading to raising resources Leading to of financial
of developing and their allocations feasibility,
and running sustainability
of operations Leading to recasting of operational Plan of operations
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 can
permit 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- with associated
O&M expenditure plans
 Derived from a demand-supply gap analysis hinged on
 A long list of projects that the ULB intends to take up 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 fund
allocation 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 revenue realisation
and nominal growth rates
incorporates additional revenue from remunerative
projects of the MIP
 Projection of capital income
based on scheme-based grants from State/ Central
based on funding pattern (loan-grant mix) adopted
for the MIP
Income & Expenditure Plan
 Projection of revenue expenditure
based on past trends/ rules for salary and other
establishment expenses, estimated charges for O&M of
infrastructure services, past trends, clearing of overdue
and regular liabilities
incorporating additional O&M expenditure due to the MIP
incorporating additional debt-servicing burden due to
borrowing plan for funding the MIP
 Projection of capital expenditure
based on the scheme-based grants received from State/
Central Governments
based on the MIP
Capital Investment Plan (CIP)
Features of the CIP
 Sized MIP for public capital facilities catering to city’s needs/
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 an optimisation of
what the ULB’s Fund can sustain in terms enabling capital
investments/ raising levels of services
 CIP provides a framework for annual budgeting and hence
requires 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 borrowing
 Annual debt-servicing commitment
 Ratios/ indicators of debt-burden
Significance of the Debt Servicing Plan
 Indicates the credit-worthiness of the ULB
 Lenders’ requirement- to assess the risks on lending
 Helps ULB & Lenders to structure the debt
 Helps ULB to restrict debt exposure to safe levels
Working of the FOP
7- FOP
FOP Assumptions
1- Service Levels Provides
Provides for
for entry
entry of
of the
Contains details of assumptions for:
assumptions for:
existing levels of ••projecting
projecting the
the income
income &&
service prevalent in expenditure
expenditure ofof the
the ULB-
ULB- 2- Actual Financial
the town/ city current
items && new
new items
items Data
4- Service due to CIP
due to CIP Basic input sheet with
Norms- based on ••funding
funding pattern
pattern for
for the
the CIP
CIP provisions for entry of
sectoral and
and the debt
the debt terms.
terms. the actual financial
8- Income & Expenditure
strategies Plan (5-10 Years) data as made
Compares the Contains the item-wise available with the
indicators of the projected income and ULB in the Municipal
current service expenditure of the Municipal Accounting Code
levels in the town/ fund under different format
with the 3- Municipal
budgeting heads
Supply Gap
recommended Finances
Analysis 9- Capital Investment Contains the summary
levels/ norms
Estimates at the Plan (5-10 Years) of the Municipal Fund
macro level, the Contains the Capital and consists of
gaps in service Investment Plan for the ULB consolidated income &
levels, which need based on investment expenditure statement
to sustaining capacity of the under revenue &
6- be converted
into projects ULB. capital accounts;
Costing (MIP) 10- Debt Servicing Plan
Determines capital (5-10 Years analysis of income &
investments Contains the debt drawl and expenditure- sectoral
(based on unit servicing plan of the ULB contributions; growth
costs) and based on the o/s debt trends; per capita
associated O&M liabilities and the funding levels
Financial Planning

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