The use of performance funding, which provides institutions with income for educational results, was tested in Tennessee. Traditionally, the budget has been separated from performance evaluation, and state formulas have evolved from the need for funding to be objective, comparable, and predictable. The Performance Funding Project in Tennessee, which was started in 1974 by the Tennessee Higher Education Commission, was designed to accomplish the following: to sharpen institutional mission, to complement the enrollment-based formula, to objectively measure educational outcomes, to measure the educational "value added" by each institution, and to promote institutional excellence without competition. After establishing pilot projects and developing assessment measures, the Tennessee Commission established the performance concept within the state's budget formulas. To provide a profile for funding, an Instructional Evaluation Schedule was developed based on the following variables: program accreditation; program field evaluation, institution-wide education outcomes (general education outcomes, placements in vocational fields); instructional improvement based on referent group surveys (students, alumni, community leaders); and planning for instructional program improvement. (SW)