Zero Based Budgeting

What is Zero-Based Budgeting?

Zero Based Budgeting is a type of budgeting process where each expense item under consideration is evaluated from scratch for the new period and starts with zero and is taken only when its needs are fully justified.

It allows organizations to start with zero for each item in their budgeting list. So there was almost no chance of error if they consider the right factors.

The main benefit of this type of budgeting is that you don’t need to depend on any reference point to think over the budget of a particular item. For example, if you see that if you invest more money into your marketing department this year, you can because you are starting the budget from zero.

The main pitfall of this sort of budgetingBudgetingBudgeting is a method used by businesses to make precise projections of revenues and expenditure for a future specific period of time while taking into account various internal and external factors prevailing at that time.read more is that every budgeting item becomes the direct result of whether it generates profits or not. For example, if the human resources department doesn’t make much profit for the last few years (since cost centers need more time to generate profits), it will get less funding for the next year.

Zero-Based-Budgeting

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Source: Zero Based Budgeting (wallstreetmojo.com)

Why zero-based budgeting concept?

There are a few reasons for which this budgeting works well. They are –

  • Systematic analysis is mandatory: Before ensuring which department or unit will get the funding, this budgeting encourages careful analysis of why the funding is required. If the manager can’t give enough reasons to approve funding, there will be no funding available for that particular unit, which comes down to the next reason for choosing zero-based budgeting over traditional budgetingTraditional BudgetingTraditional budgeting is one of the ways for preparing a company's budget for a specific time period in which the previous year's budget is used as the base for preparing the current year's budget.read more.
  • Ensures cost-effectiveness: One of the most important reasons for which zero-based budgeting is practiced is because it saves a lot of cost upfront. Let’s say that you, as a manager, sees that one of the departments (let’s say accounting) isn’t doing well. The employees in the accounting department are performing poorly, and their work isn’t adding value to the profit generation of the company. In this scenario, you can do two things. First, you can put the employees of accounting into other job roles, which will help them appreciate their talent and abilities, plus you can outsource the whole accounting department from next year. Since you’re starting from zero, there will be almost no downside until you sit again next year to re-evaluate your decision.
  • It bases on decisions over routine: In traditional budgeting, most of the activities are routine. But in zero-based budgeting, decision triumphs over routine, things are questioned, approaches are analyzed, and things were redone. As a result, there’s no room for habituation or wastage of time, money, effort. And the management also feels more in control because decision matters more than routine in this budgeting.

Advantages

Disadvantages

There are a couple of demerits which we should point out –

This article has been a guide to what is Zero-Based Budgeting, its concepts with examples. Here we also discuss the advantages and disadvantages of zero-based budgeting. You may have a look at the following articles to learn more about Budgeting –

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Comments

  1. Gideon says

    Thank you sir.

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