Companies that are experiencing high growth or disruption or whose industries are in turmoil, often need a comprehensive approach to controlling costs. In our experience, zero-based budgeting (ZBB) provides a practical way for companies to radically redesign their cost structures, and prepare for not just current year but future market conditions. We have found that companies who take on the difficult task of a Zero Base Budget can achieve reductions as much as 20-25% of spending on SG&A and overhead and reduce the waste in capital projects by an equal percentage.
WHAT IS ZERO BASED BUDGETING (ZBB)?
Zero-Based Budgeting is a broad-reaching cost transformation effort that takes a “blank sheet of paper” approach to resource planning. It differs from traditional budgeting processes by examining all expenses for each new period, not just incremental expenditures in obvious areas. ZBB forces managers to scrutinize all spending and requires justifying every expense item that should be kept. It allows companies to radically redesign their cost structures and boost competitiveness
Zero-Based Budgeting analyzes which activities should be performed at what levels and frequency and examines how they could be better performed—potentially through streamlining, standardization, outsourcing, offshoring or automation. The process is helpful for aligning resource allocations with strategic goals, although it can be time-consuming and difficult to quantify the returns on some expenditures, such as basic research
FOR ZERO-BASED BUDGETING, COMPANIES SHOULD TAKE THE FOLLOWING STEPS:
- Re-envision the business and ask what activities and resources will truly be needed to compete under future market conditions, then set a clear strategic vision and cost target
- Build a comprehensive fact base of current product offerings, functions and expenses
- Use a “blank sheet of paper” approach to build the ideal cost state and identify vital initiatives
- Build the future state, bottom up, by justifying what activities should be performed
- Reset budgets and full-time employee levels, redesigning the organization and planning for implementation
ZERO-BASED BUDGETING IS USED TO:
- Confront conventional thinking and resource allocations by challenging every line item and assumption, including the most sacred of cows
- Help organizations that are overly complex due to mergers or acquisitions, streamline
- Fund key strategic imperatives while removing large non-value-adding costs
- Align resources with the mission of the function and enterprise
- Justify proposed activities and resources
- Out of date inefficient operations are identified
- Allow managers to quickly respond to changes in external environment
- It promotes a questioning and challenging attitude towards costs and expenditures
- It ensures efficient use of limited resources by allocating them according to the relative importance of the programs
- The annual review of the programs indicates the relative worth of the programs and thus ensures no programs continues beyond its productive life
- It helps the management to design and develop cost-effective techniques for improving operations
- Increased paper work
- Cost of preparing many packages
- Subjective ranking. Strongest voices often prevail.
- More emphasis on short term benefits and qualitative benefits often ignored
- The identification of decision units and decision packages creates number of problems for the organization(Decentralized)
- The process of zero base budgeting requires experiences, intelligence, expertise, and continuous training on the part of executives Thus , it is not suitable for an ordinary organization
Zero-based budgeting provides a systematic method of planning company financial resources. It requires a program to be justified in each financial year, as opposed to simply budgeting based on a previous year’s allocation. It takes ‘organizational sludge” out of the process but to do it right, may require an extensive amount of time and paper work. A hybrid of zero based budgets is implemented in more troubled areas along with traditional budgeting spreads the effort involved in justifying new budgets and is in our opinion a better method by which zero-based budgeting can be incorporated into current budgeting techniques.