Chapter Four:

Budgeting and Performance

Reporting

04/03/2024 1
 Introduction
Budgetary accountability is of paramount importance in governments.
Budget provisions in government constitutions and laws are designed to ensure
that government revenues and expenditures are properly planned, authorized,
controlled, evaluated, and reported to the citizenry, legislature, and creditors.
These requirements are especially important because governments
1. are the only organizations in our society with the power to levy taxes;
2. provide services that are crucial to our well-being, such as police and fire
protection, elementary and secondary education, and the courts; and
3. function in a delicate legislative executive-judicial “checks and balances”
environment.

04/03/2024 2
 What is budget?
• it can be defined as a plan of financial operation embodying an estimate of
proposed expenditures for a given time and the proposed means of financing
them.
• The budget is the financial statement prepared in order to forecast the
expenditures and revenues for the budgetary period and to be used by
managers and policy makers in decision-making and accountability processes.
• It is a mechanism for allocating resources to goals and objectives of an entity
and is related to the strategic plan.
• A budget is future-oriented as it projects what activities a business will
undertake and the financial plan of doing them.
• The budget can refer to 1 year (annual budget) or more than 1 year (multiyear
budget).
• Budgeting can be defined as the process of preparing a budget, which sets
estimations for revenues and expenses for future periods.
• In any case, the process of preparing the budget takes place during the months
before the year it refers to so that it can be used by the beginning of the fiscal
year.
 Budgeting in the Public Sector
• Government Budget: It is simply the plans of government for the forthcoming
year expressed in monetary terms.
• Budgeting is the process of allocating scarce resources among unlimited
demands.
• It can be defined as a comprehensive plan expressed in financial terms by which
an operating programme is effected for a given period for the purpose of
attaining a given objective.
• It embodies an estimate of proposed expenditure for a given period and proposed
means of financing them.
• It a process for systematically relating the expenditure to the accomplishment of
objectives
• Approved budgets are management plans in both businesses and governments,
but legally enacted budgets are also laws in governments.
• Thus, budgets typically play a far greater role in planning, controlling, and
evaluating government operations than in businesses.
 Cont’d….

Given the importance of the budget in government, government officials must

have timely, useful, up-to-date information on how actual operations during the
year compare to the budget.
This information is needed to assist government officials:
• Avoid unintentional overexpenditure of appropriation authority.
• Determine whether revenues are achieving budgeted levels.
• Know if they must deal with an unexpected shortage of resources
Budgets are key elements of legislative control over governmental units.
Budgets are, usually,
proposed by executive branches,
reviewed, modified and enacted by the legislative branch and
finally administrated by executives.

04/03/2024 5
 Cont’d….

The adoption of budget implies that decisions have been made, on the
basis of the planning process, about how the unit is to reach to its
objectives. The accounting system then helps the administrators

1. control the activities authorized to carry out the plans and

2. prepare the statements that permit comparison of actual operations

with the budgeted and

3. Evaluation of variances.

These three budgetary phases and functions – planning, controlling and

evaluation – are crucial aspects of all budgetary approaches and
processes.

04/03/2024 6
 Cont’d….
• Budgeting in profit-making enterprise is usually fairly flexible, and can be
changed as conditions warrant during the year.
• As long as the FP is profitable, the specific purpose of the spending doesn‘t
matter so much, as long as it is helping to contribute to the bottom line.
• On the other hand, governments have no profit motive to guide the resources
represented by their budgets into the ―right usage.
• Therefore, they rely on legal requirements to insure that money is used for the
appropriate purpose.
• Governmental budgets, once fixed by law for the year, are generally
unchangeable without much effort. Altering or exceeding the budget typically
carries severe penalties for the administrator who does so.
• Given the unchanging nature of government budgets, and the penalties for
non-compliance, it logically follows that the accounting system should
support the budget.
• The accounting system, at the very least, should give the necessary
information for keeping within the budgetary restrictions.

04/03/2024 7
 Uses of Budgets

A. The primary usefulness of FP budgets is planning, i.e. ―What resources do we

have, and how can we plan to spend them in order to maximize profit?
• Planning is a special concern for the following reasons:
1. The type, quantity and quality of governmental goods and services provided are
not normally evaluated and adjusted through the open market mechanism
2. Governmental goods/services (education, health, police etc) are often among most
critical to the public interest
3. The immense scope and diversity of modern government activities make
comprehensive, thoughtful and systematic planning a pre-requisite to orderly
decision making
4. Government planning and decision making is generally a joint process involving
its citizens.

8
 Cont…
B. Compliance with Laws: Budgeting may be the most important and challenging
responsibility of a government legislator or manager. Citizens expect government leaders
to prioritize community program and service goals, authorize the expenditure of
resources to meet those goals, comply with laws over spending appropriations, improve
the quality of services in the near term, and demonstrate stewardship for public funds in
the long term.
• The GASB budgeting, budgetary control, and budgetary reporting principle provides
that
a. An annual budget(s) should be adopted by every governmental unit.
b. The accounting system should provide the basis for appropriate budgetary control.
c. Budgetary comparison should be presented for the General Fund and for each major
special revenue fund that has a legally adopted annual budget. Governments are
encouraged to present such budgetary comparison information in schedules as a part of
required supplementary information (RSI).
04/03/2024 9
 Cont..

• The budgetary comparison should present both the original and the final

appropriated budgets for the reporting period as well as actual inflows,

outflows, and balances, stated on the government’s budgetary basis.

• Thus, the budget is a tool for holding administrators accountable for

performance expectations.

C. Communicate Performance Effectiveness

Budgeting is also an important tool for achieving efficient and effective

management of resources. Because of public demand for improved

transparency and accountability, performance measurement systems have

been04/03/2024
developed at all levels of government. 10
 Why is Budget Classification Important?
• At the core of the functions of a budget:
• Strategic planning, policy formulation and performance analysis
• Efficient resource allocation across sectors
• Compliance with budgetary resources appropriated by parliament
 Normative framework for policy decision-making and accountability
Defining Budget Classification
• Systemic way of categorizing and structuring budgetary information which is
provided to government managers, policymakers, the legislature, and the
general public
• Format for the budget preparation, presentation and reporting which thus
determines the coherence and transparency of the budget
• Coding system aimed to produce meaningful and accurate information
• A sound budget classification system should contain:
 Classification of revenues into various categories (tax and other than tax
revenue; taxes by tax base)
 Administrative, economic and functional classifications of expenditures.
Types of Budget Classifications
Main:
• Economic
• Functional
• Administrative
Economic Classification
Main Categories: Determined by the type of expenditure
incurred
 Compensation of employees
 Use of goods & services
 Consumption of fixed capital
 Interest
 Subsidies
 Grants
 Social benefits
 Other expense
 Functional Classification
• Categorizes government activities based on their broad objectives
• Facilitates the analysis of resource allocation among sectors and the impact of
fiscal policies
• Distinct from the administrative structure of the government
• Comprises 10 major government functions, further divided into groups and
subgroups
Main Categories:
 General public services
 Defense
 Public order & safety
 Economic affairs
 Environmental protection
 Housing & community amenities
 Health
 Recreation, culture & religion
 Education
 Social protection
 Other Classification of Budget
Generally there are five classifications of governmental budgets and two
types within each classification.
1. Capital or Current

 Most governments are involved in programs to provide certain goods and

services continuously and/or for acquisition of capital items.

 Multi-year schedule for acquisition of capital items is called capital

program.

Capital budgets deal with the acquisition of fixed assets.

 Current budgets are concerned with the current year‘s operating

expenditures, sometimes called recurring expenditures, because similar
sorts of expenditures are needed year after year.
04/03/2024 14
 2. Tentative or enacted
 One key distinction among budgets is their legal status. Various documents
may be called budgets prior to approval by the legislative body.
 the tentative budget is still in process. It has not yet been officially
approved.
 An enacted budget has been officially approved and is a binding legal
document.
3. General or Special
 Budgets of governmental activities commonly financed through the General,
Special Revenue, and Debit Serviceare referred as General budgets .
 Funds are referred as General budgets. A budget prepared for any other
fund is Special.
 Special budgets are commonly limited to Capital project funds, though
04/03/2024 15
Enterprise and Internal service funds do sometimes formally budgeted.
 4. Fixed or Flexible
 Fixed budgets are for a fixed total dollar (or Birr) amount and cannot be
exceeded. The allocated amount should not be exceeded.
 Fixed budgets are simple to prepare and administer, important for legislation
control to limit the discretion of executives and their subordinates.
 Flexible budgets are more realistic when changes in quantities of goods or
services provided directly affect resource availability and need change in
outlay patter.
5. Executive or Legislative
 Budgets are also sometimes categorized by the preparer.
 Budget preparation is usually an executive‘s function, though the legislature
may revise the budget prior to approval.
 In some instances legislative branch may prepare budget, possibly subject
to executive veto.
 Executive budgets originated from the executive branch and Legislative
budgets from the legislation branch.
04/03/2024 16
 Budgets and Outturn Reporting (IPSAS 24)

 Presentation of budget information (IPSAS24)

Required disclosures

Comparison of budget and actual amount

Material differences; Assets and liabilities

Practical Implementation challenges

Questions & Answers.

04/03/2024 17
 Required Disclosure of budget (IPSAS-24)
 Public entities are required by law to make public their approved

budgets while others freely opt to do so to enhance their public

accountability and transparency.

 A public entity which makes public its approved budget is required by

IPSAS 1 and 24 to present a comparison of (original or final) budget

amount and actual amount in its primary financial statements

 Provide a note, an explanation of material differences between the

budget and actual amounts, unless such explanation is included in other

documents issued with the financial statements and a cross reference to

those documents is made in the notes to the F/statements.

04/03/2024 18
 Reconciliation of actual amounts on comparative budget basis and actual
amounts in the financial statements.
Where the financial statements and the budget are not prepared on a
comparable basis, the actual amounts presented on a comparable basis to the
budget shall be:
 If the accrual basis is adopted for the budget, reconcile total revenues, total
expenses and net cash flows from operating, investing and financing cash
flows in the financial statements, or
 If a basis other than the accrual basis is adopted for the budget, net cash flows
from operating, investing and financing cash flows in the financial statements.
The reconciliation shall be disclosed as part of the statement of comparison of
budget and actual amounts or in the notes to the financial statements.
04/03/2024 19
 Presentation
• Comparison of budgeted amounts and actual amounts

• If financial statements and budget prepared on comparable basis

(e.g. accrual f/s & accrual budget)
– Additional budget columns in the financial statements

– Separate additional financial statement

• If financial statements and budget not prepared on comparable

basis (e.g. accrual f/s & cash budget) separate additional financial
statement required
• Comparable
04/03/2024 basis to the budget 20
 Disclosure
 Material differences between the budget and actual amounts
 Explanation of whether changes between the original and final budget are from
reallocations within the budget, or of other factors
 Explanation of the budgetary basis and classification basis adopted in the approved
budget;
 Period of the approved budget; and
 Entities included in the approved budget
 Reasons for policy shifts, natural disaster, other unforeseen events should be issued as
notes before, with or at the same time with Financial Statements.
 Link Budget information to service achievements in other documents and reference is
required in the Financial statements.
Where any budgeted amounts or appropriations have been exceeded, or expenses
incurred without appropriation or authority, details may be disclosed by way of a note
to the relevant item in the financial statements.
04/03/2024 21
Key Issues in Implementing Budget Classification
System
• Political commitment at a high level is critical for ensuring
approval of changes to the budget legal framework,
sustainability of the reform, and effective utilization of the
adopted budget classification and financial reporting
• Technical capacity at MoF, budget departments in line
ministries, and other budgetary institutions is key for
maintaining the system and adapting it to the future needs
• IT System assists reclassification of entries and strengthens
functionality of budget administration and reporting (IFMIS)
 Approaches to budgeting
• Various budgeting models continue to be commonly
used and fall predominantly into the following
categories:
(1) line-item, or "traditional," budgeting;

(2) performance budgeting;

(3) program and planning ("program") budgeting;

(4) zero-based budgeting (ZBB);

(5) Entrepreneurial budgeting

04/03/2024 23
 1. Line-Item Budgeting (incremental budgeting)
• Line-item Budgeting/incremental budgeting: is derived from the current year’s
budget by adding or subtracting amounts expected to be required by line items.
• Focuses on controlling resource inputs and typically uses the line-item budget format
in which the focus is on department expenditures for specified purposes or objects such
as personnel, supplies, equipment, and travel.
• It is still the most widely used approach in many organizations, including schools,
because of its simplicity and its control orientation.
• It is referred to as the "historical" approach because administrators and chief
executives often base their expenditure requests on historical expenditure and revenue
data.
• One important aspect of line-item budgeting is that it offers flexibility in the amount
of control established over the use of resources, depending on the level of expenditure
detail (e.g., fund, function, object) incorporated into the document.
04/03/2024 24
04/03/2024 25
 Cont. ……..

• It offers simplicity and ease of preparation.

• Critics have identified several shortcomings that may make it inappropriate

for certain organizational environments. The most severe criticism is that
line item budgeting presents little useful information to decision makers on
the functions and activities of organizational units.

• Its weakness is the focuses on gov’t operations rather than what accomplished by
that spending.

• Because this budget presents proposed expenditure amounts only by

category, the justifications for such expenditures are not explicit and are often
not intuitive.

04/03/2024 26
 2. Zero-Based Budgeting (ZBB):
The basic tenet of ZBB is that program activities and services must be justified its
existence every year during the budget development process.

No program is assumed to be continuing from one year to the next.

The budget is prepared by dividing all of a government's operations into decision units
at relatively low levels of the organization.

Individual decision units are then aggregated into decision packages on the basis of
program activities, program goals, organizational units, and so forth.

Costs of goods or services are attached to each decision package on the basis of the
level of production or service to be provided to produce defined outputs or outcomes.

Decision units are then ranked by their importance in reaching organizational goals
and objectives.
04/03/2024 27
Advantages: It requires annual revision of all programs, activities and expenditures. This
helps to:
1. save money by identifying outdated programs and unnecessary high levels of services
2. concentrate the attention of officials on the costs and benefits of services
3. cause a search for new ways of planning and evaluation
4. provide better justification for the budget
5. improve the decisions of executives and legislative bodies
Limitations
1. it requires a great deal of paper work, staff time and effort to identify and rank decision
units and packages
2. it is difficult to obtain the data to compute costs of alternative methods of achieving
objectives and of alternative levels of services

04/03/2024 28
 3. Performance Budgeting:
Performance budget is a budget that bases expenditures primarily up on measurable
performance of activities by the department, rather than looking at the cost of the
inputs.
• is a plan for relating resource inputs to the efficient production of outputs
• Performance auditing is the subsequent evaluation to determine that resources
were, in fact, used efficiently and effectively in accordance with the plan.
• In this type budgets attempt will be made to relate the input of governmental
resources to the output of governmental services.
• Provide narrative description of each proposed activity.
• The performance budget is mainly concerned with only one year at a time.
• Basically, the process of making the budget may be summarized as follows:
• 1. The governmental entity decides what type of services to offer.
• 2. The entity decides how many units of the service to offer.
• 3. The cost of one unit of the service is calculated.
• 4. The budget is determined by multiplying units of service by the cost per unit

29
• Advantage
1. It emphasis on inclusion of narrative description of each proposed activity in the
proposed budget
2. Organization of the budget by activities, with requests supported by estimates of
costs and accomplishments in the quantitative terms and
3. Its emphasis on the need to measure output and input
• Limitations
This approach is fundamentally sound but has the following drawbacks
1. Many government services and activities do not appear readily measurable in
meaningful output units or unit cost terms
2. This style make data gathering difficult and impossible
3. Need highly qualified skill man power

04/03/2024 30
4. Program budgeting: emphasizes broad policy goals, strategies and
objectives, rather than details of spending
• Its advantage is the ability to address fundamental policy questions about
whether the government or not-for-profit is better off operating certain
programs.
• Ultimate goals and intermediate objectives must be explicitly stated
• the costs and benefits of major alternative courses to achieve these goals
and objectives are to explicitly evaluated
• It is considered a transitional form between traditional line-item and
performance approaches, sometimes referred to as modified program
budgeting.
Distinctive characteristics of PPB
1. It focuses on identifying the fundamental objectives of the government
and then relating all activities to them
2. Future year implications are explicitly identified
3. All pertinent costs are considered
4. Systematic
04/03/2024 analysis of alternatives is performed 31
 Advantages
1. Unlike performance and traditional budgeting which based principally on
historical
data and focus in single period, PB emphasizes on long range planning in
which
• (i) ultimate goals and intermediate objectives must be explicitly stated
and
• (ii) the costs and benefits of major alternative courses to achieve these
goals and objectives are to explicitly evaluated
2. It assumes that all programs are to be evaluated annually, so that poor ones
may be weeded out and new ones added
3. It can be adapted to any level
Limitations
 It is quite difficult to formulate a meaningful, explicit statement of a
government‘s goals and objectives that can be agreed by all the concerned
 Official change matters on its effectiveness
 Need highly qualified personnel
 Objective measurement is difficult
04/03/2024 32
5. Entrepreneurial budgeting: In this approach, strategic plans, incentives, and
accountability are merged into the budget and communicated to citizens as a
package that might be posted on the government’s website.
• It articulates government-wide goals, such as “improve community safety” or
“improve environmental health,”
• An advantage of integrating strategic planning into a government’s daily
activities is that units (or departments or programs) remain focused on
outcomes that improve the government’s services to its citizens.
• A disadvantage is that market-based concepts, such as competition among units
for scarce resources, are often seen as being at odds in a nonbusiness entity.

33
 END OF CHAPTER 4
• QUESTIONS?

04/03/2024 34