A budget is a quantitative expression of a plan of action in advance of the period to which it relates.
An effective budget should show what it would cost to enjoy desired benefits. The budget that clearly shows the relationship between cost and benefit is the Zero Based Budgeting (ZBB).
What is ZBB?
The ZBB adopts a cost-benefit appraoch that assumes that the cost allowance for an is zero and will remain so until someone (a manager) justifies the existence of the cost item and its associated benefits.
This makes it important to justify the contributions of every cost item to meet objectives of a company.
The ZBB requires that each cost element be specifically justified as though the activities associated with the budget were being undertaken for the first time. Where no approval is given, the budget allowance is zero.
ZBB is sometimes known as priority-based budgeting.
ZBB is best applied to less quantifiable activities like accounting, finance, production planning and other service support expenditure.
It’s also an effective budgeting method for non-profit making organizations and many forms in the service industry.
ZBB is implemented in stages.
What are the stages in implementing. ZBB?
- First, ask, “What are the individually evaluated activities of the company?”
Group these activities or functions into decision packages. Before grouping these activities, it’s important to ask;
a. Are all or some of the activities necessary? What would be the consequences of not carrying out some or all of them?
b. What are the best approaches for carrying out identified activities? How much should they cost and what are their contributions to the company’s objectives?
Now, the decision packages should spell out anticipated costs and expected benefits.
They could have a base package; the minimum feasible level of activity and other packages that define higher activity levels expressed in a cost-benefit ratio. This type of decisin packages is known as incremental decision packages.
Alternatively, the mutually exclusive decision packages could be adopted. Here, costs and benefits of alternative tasks and expenditure for the same job are compared and the best is picked.
2. The next stage in implementing ZBB is the evaluation and ranking of packages. After preparing the decision packages, management ranks all packages on the basis of benefits to the company.
3. Resources are then allocated among different functions with those with high priority receiving attention first.
At this stage of the implementation, the packages are accepted in the ranked priority list or sequence to the extent allowed by the agreed expenditure level.
Why should a business use the Zero Based Budgeting (ZBB)?
What are the advantages of ZBB?
- The focus of the ZBB is on value for money. ZBB emphasizes the relationship between application of resources and output of benefits.
This emphasis simplifies the work of identifying less cost effective activities.
2. The ZBB also enhances staff productivity and motivation. The staff, through the ZBB process, acquire better knowledge about their job functions and apply them. The expected benefits could be a great source of motivation.
3. The ZBB budgeting approach provides a scientific way to assess the relevance of the status quo in the light of available alternatives.
Existing cost patterns and expenditure levels are individually and thoroughly examined side by side their benefits. A cost element without approval is given a zero budget allowance
Finally, a well implemented ZBB should lead to an efficient allocation of resources to job functions .