Managing in a time of economic growth can be easy. However, in the current unstable economic environment, executives and creative leaders are often asked to make unprecedented and high-impact decisions. In a business environment where managing costs without compromising quality and protecting key assets are daunting tasks, zero-based budgeting can be a useful exercise to identify cost savings.
What is Zero-Based Budgeting (ZBB)?
ZBB is a long-term strategic approach and method in which all expenses for each new budget period must be justified, in other words it's a "bottom-up approach" to budgeting. Whereas traditional budgeting only requires the budget increase over the prior year's actual spend to be justified, zero-based budgeting starts from a zero and every budgeted item is analyzed for its need and cost. The goal is to achieve cost savings and minimize inefficiencies that may already exist within your department by asking budget owners to identify and justify their headcount and other expenses in terms of business volumes. It is built on the concept of justifying future expectations and the ability to persuade executive management that the expenses are warrented. The foundation of successful ZBB is in your communication with your client base in regards to future work forecasting.
Advantages and Disadvantages
High success rates with tangible and long-lasting results become possible because zero-based budgeting:
- Identifies inflated budgets. Focusing the budget process on a comprehensive analysis of objectives and needs, ZBB can identify and eliminate waste.
- Combines planning and budgeting into a single process. ZBB incorporates the planning process as part of the budgeting process. By forecasting a realistic pipeline of work volume based on annually recurring initiatives as well as new anticipated projects, you can then justify major expenditures such as headcount, hardware, software and facility requirements accurately.
- Causes managers to evaluate in detail the cost effectiveness of their operations. Zero-based cost management involves ongoing reexamination of activities necessary to achieve established business outcomes. It incentivizes department managers to continuously strive to improve operations and eliminate wasteful spending.
- Expands management participation. ZBB drives managers to find cost-effective ways to improve operations. Creative leaders and executive leadership meet monthly or quarterly to review budget versus expenses and pipeline projections.
There are certain disadvantages to zero-based budgeting that must be weighed against the potential advantages:
- More time consuming than traditional budgeting.
- Justifying every line item can be problematic for creative departments, because it is difficult to prove return on investment.
- The amount of data required for ZBB may be overwhelming.
You don't need a degree in accounting to effectively and responsibly manage a zero-based cost center. A common sense approach will help you determine and prioritize what is required to keep your department operating with optimum effectiveness and efficiency.
To start, categorize your department's needs into (1) must haves, (2) ought to haves and (3) nice to haves. When all of your department's requirements are categorized appropriately you can determine the funding or budget required to maintain operational effectiveness and the essential resources necessary to provide outstanding service to your in-house clients and the corporation.
As your company's needs change throughout the budget year, reassess your department's operational requirements in tandem with changes to your project pipeline projections.
An Information-Based Process
I used and recommend the following information to make sound business decisions throughout the budget year:
- Analyze the billing hours and utilization of each line of service in your organization. Monitor and track individual productivity, this will aide you in knowing where you may be over- or under-staffed.
- Track the pipeline of projects and adjust the pipeline on a rolling basis. Projects may be added, deleted, delayed or extended based on business fluctuations. Keep in constant contact with your client base.
- Know what services are in demand and staff accordingly. You may find diminishing demand for some current services. Or, there could be new needs within your client base providing you with an opportunity to expand and add new service offerings.
Finally, be open to proactive course correction throughout the budget year. Be realistic and exact. Base decisions on real data, don't over inflate expectations as this will come back and haunt you the further you get into the budget year. Course corrections could include, but are not limited to:
- Regular full-time staff additions or reductions
- Delaying the purchase of new equipment
- Implementing new processes for operational effectiveness
- Use of temporary labor or outsourcing
My Own Experience
As the Director of an in-house Corporate Marketing Shared Services organization for a Fortune 150 company, I successfully managed a zero-based cost center for 20 years. My organization was a chargeback group in which we charged our clients on an hourly rate basis. Our billing rates were established at the beginning of each fiscal year based on our budget and pipeline projections. We were obligated to recover all operating expenses and "zero out" at the end of each fiscal year (no profit, no loss). Using zero-based budgeting made it possible to achieve this objective each year. It also helped keep our billing rates relatively stable and 20-40% below costs of outside service providers.
This method of budgeting required:
- Hands-on fiscal management on an ongoing basis throughout the fiscal year
- Realistic workload projections (monthly, quarterly, annually)
- Appropriate and timely course correction as required throughout the budget year
- Continuous process improvements to remove inefficiencies
- Active involvement and accountability for all members of my leadership team