The last few years have seen a dramatic resurgence in the popularity of zero-based budgeting (ZBB), with the number of publicly-traded US companies mentioning the term in their earnings calls increasing from 14 to 90 between 2013 and 2015. Some of the world’s largest organizations have implemented ZBB, including Unilever, KraftHeinz, Coca-Cola and Mondelez, all of whom have reported significant cost reductions.
ZBB was first introduced in the early 1970s by an accounting executive at Texas Instruments called Peter Pyhrr. Pyhrr was brought on to help Jimmy Carter first in his role as Georgia governor, where ZBB was adopted at state level, then as the President of the United States. The idea was that, while in traditional budgeting, the previous term’s expenditures are counted up and increased by a small percentage for the following term, with ZBB, you are preparing the budget from scratch with a zero-base. In ZBB, all spending must be justified by demonstrable needs and costs, and accounted for in each new budgeting period, and every department is analyzed for its needs and costs.
The return of ZBB is down, primarily, to its suitability to an uncertain business climate. Since more companies have begun taking it up, it has grown quickly, as organizations have seen the success of those who have decided to adopt it. It has many advantages. According to global management consulting firm McKinsey & Company, a well-implemented zero-based budget can save large corporations 10-25%, sometimes as early as six months of implementation. It allocates financial resources basing on planning requirements and results. It is proven to reduce expenditure by providing a clearer picture of costs against targets and KPIs. It improves accuracy by making every department look at data at a more granular level, and to constantly re-examine each and every item of the cash flow and compute their operation costs. It also leads to increased efficiency through improvements to the allocation of resources brought about by looking at actual rather than historical numbers and motivating managers to look for alternative plans.
Ultimately, the most important thing is that it helps to give employees a sense of ownership for the company by making them accountable for every expenditure. Evaluating line items and programs from a zero baseline encourages employees to be more cost-conscious and involves them in decision-making. It promotes competition within teams as to who can be the most efficient and encourages them to bring down costs as far as possible and trim any excess. Instead, it puts the burden of proof on those who want to maintain or raise spending to justify their decisions.
The zero-based approach to budgeting does present several issues. The reason it went out of fashion originally was the cost and time involved, although this problem has been solved to a degree by advances in technology. It also doesn’t always take account for an organization’s long term goals. However, this is only if you think of ZBB as an alternative to traditional planning and budgeting cycles. Zero-based budgeting should not necessarily be used as a permanent solution, rather as and when it is demanded by circumstances dictated by the business climate. When a company needs to really keep costs in check, though, it is far and away the best process.