Question

The aims of zero-base budgeting have been described recently in the following terms:

‘Zero-base budgeting is a general management tool that can provide a systematic way to evaluate all operations and programmes; a means of establishing a working structure to recognise priorities and performance measures for current and future plans; in essence, a methodology for the continual redirection of resources into the highest priority programmes, and to explicitly identify trade-offs among long-term growth, current operations, and profit needs.’

Required:

Discuss and explain:

1. How a system of zero-base budgeting (ZBB) works, and;

2. Evaluate the extent to which ZBB achieves the goals and objectives outlined in the statement above.

(10 marks

Answer 1

1. How a system of zero-base budgeting (ZBB) works

Zero-based budgeting (ZBB) is a method of budgeting in which all expenses must be justified for each new period. The process of zero-based budgeting starts from a "zero base," and every function within an organization is analyzed for its needs and costs. Budgets are then built around what is needed for the upcoming period, regardless of whether each budget is higher or lower than the previous one. ZBB allows top-level strategic goals to be implemented into the budgeting process by tying them to specific functional areas of the organization, where costs can be first grouped and then measured against previous results and current expectations.

                  Zero-based budgeting” is an approach to plan and prepare the budget from the scratch. Zero-based budgeting starts from zero, rather than a traditional budget that is based on previous budgets.

To create a zero base budget involvement of the employees is required. You can ask your employees what kind of expenses the business will have to bear and figure out where you can control such expenses. If a particular expense fails to benefit the business, the same should be axed from the budget.

Steps to create zero based budgeting

1. Identifying the decision units that need a justification for every line item of expenditure in the proposed budget.

2. Preparing Decision Packages. Each decision package is an identifiable and separate activity. These decision packages are connected with the objectives of the company.

3. The next step in ZBB is to rank the decision packages. This ranking is done on the basis of cost-benefit analysis.

4. Finally, funds are allocated on the basis of the above findings by following a pyramid ranking system to ensure maximum results.

Zero-based budgeting targets at presenting true expenses to be incurred by a department. Although this budgeting method is time-consuming, this is a more appropriate way of budgeting. This includes all-inclusive analysis of the budget proposal and if the managers make irrelevant variations so as to achieve what they want, they are probably exposed.

2. Evaluate the extent to which ZBB achieves the goals and objectives outlined in the statement above.

Advantages and objectives of zero based budgeting

a. Accuracy:

Against the regular methods of budgeting that involve just making some arbitrary changes to the previous year’s budget, zero-based budgeting makes every department relook each and every item of the cash flow and compute their operation costs. This to some extent helps in cost reduction as it gives a clear picture of costs against the desired performance.

b. Efficiency:

This helps in efficient allocation of resources (department-wise) as it does not look at the historical numbers but looks at the actual numbers

c. Reduction in redundant activities:

It leads to the identification of opportunities and more cost-effective ways of doing things by removing all the unproductive or redundant activities.

d. Budget inflation:

Since every line item is to be justified, zero-based budget overcomes the weakness of incremental budgeting of budget inflation.

e. Coordination and Communication:

It also improves coordination and communication within the department and motivates employees by involving them in decision-making.

Zero-based budgeting to facilitate the incorporation of top-level strategic objectives into the budgeting process by tying them to specific functional areas within the organization. Under this system, costs are grouped and measured against previous results and current expectations, enabling management to allocate funds by current need instead of by historical expenditures. ‘Zero-base budgeting is a general management tool that can provide a systematic way to evaluate all operations and programs.

                              The zero-based budgeting system puts the burden of proof on the manager, and demands that each manager justify the entire budget in detail and prove why he or she should spend the organization's money in the manner proposed. A "decision package" must be developed by each manager for every project or activity, which includes an analysis of cost, purpose, alternative courses of action, measures of performance, consequences of not performing the activity, and the benefits.

                                                    The zero-based budgeting system puts the burden of proof on the manager, and demands that each manager justify the entire budget in detail and prove why he or she should spend the organization's money in the manner proposed. A "decision package" must be developed by each manager for every project or activity, which includes an analysis of cost, purpose, alternative courses of action, measures of performance, consequences of not performing the activity, and the benefits.

Organizations that use an effective approach to ZBB report a multitude of benefits. In addition to increased cost savings, here are six benefits and objectives that ZBB can provide;

a. A cost discipline that’s created and focused on operational execution to support business growth

b. Forward-looking resource plans that align to the projected future business state

c. Enhanced staff engagement in budgeting for impact and thinking about what “moves the needle”

d. Increased manager accountability for spending and that embeds a continuous culture of cost awareness

e. Conversation and collaboration among all managers and planners to work together toward a common goal of expense budgeting focused on meeting the needs of the business

Zero-based budgeting targets at presenting true expenses to be incurred by a department. Although this budgeting method is time-consuming, this is a more appropriate way of budgeting.