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Zero-based budgeting - a great idea, one step at a time

Zero-based budgeting (ZBB) is a cost management approach adopted by many businesses, especially in the consumer goods sector. It allows companies to reduce unnecessary costs, increase profits, and maximise shareholder value.

It’s no secret that ZBB is often associated with acquisitions or firms positioning themselves for a sale. As a result, it’s often seen negatively by employees who, on the whole, fear such change. However, if CFOs avoid focussing purely on the bottom line, and instil ZBB broadly across the business, they could use such an approach to fuel investment for company priorities, boost growth and increase brand investment.  

Austere times

Why the sudden need for change? Well, with the post-Brexit economic situation across Europe remaining precarious, industry leaders are starting to wake up to the potential of ZBB. A lot of them have spoken publicly about how it has helped them save on areas such as overhead costs, which can then be reinvested elsewhere. Alternatively, such savings can be used to return funds to the shareholder (e.g. dividend increase, share buyback).

This level of efficiency cannot always be realised through traditional budgeting processes, based on extrapolating last year’s spend. Quite simply, it fails to provide the detailed insight needed. ZBB can - and that’s what’s driving its increasing adoption during these volatile economic times, especially for any consumer-facing companies struggling to maintain margins at a time when prices are largely capped, or even decreasing. For this reason, ZBB is also gaining adherents with manufacturing, advertising, and hospitality companies – as well as public sector bodies following continued government austerity measures.

The devil’s in the detail

Planning is central to the ZBB process. All organisational activities— from the way orders are fulfilled, to individual marketing campaigns, to IT and legal - are rigorously reviewed so funding for each activity can be recalibrated. Inevitably, this is a large undertaking. However, here are five ways businesses can effectively apply ZBB for the benefit of the wider organisation:

1)      Integrate ZBB with core financial planning and analysis (FP&A) processes - ZBB should not be seen as an alternative to current planning and budgeting cycles, but as an auxiliary process carried out every couple of years to refocus spending on strategically important activities and initiatives. Prioritising activities and building a budget from scratch takes time and is best tackled during a less frenzied period of the year.

2)      Focus ZBB initiatives for maximum returns - many companies limit their ZBB initiative to selling, general and administrative expenses (SG&A) and other areas of overhead, where there are large numbers of indirect costs. It allows them to target specific parts of their organisation and gain major benefits for a limited investment without overly disrupting customer-facing business functions. Others choose to limit their use of ZBB to new business initiatives and requests for additional funding while using alternative methods of budgeting for ongoing activities.

3)      Unify operational and financial data on a single platform - the success of ZBB depends on managers having both a deep understanding and visibility of the operational drivers of costs. Providing such visibility means having a more granular level of information (right down to an individual employee, a business trip, or marketing campaign) and easy access to data around activity volumes, productivity, and resource consumption. None of this detail is contained in traditional planning and budgeting systems, or even in many of the newer cloud-based solutions, which simply contain financial data that is held at a highly aggregated level. As a result, such systems need to be supplemented with considerable amounts of data from other systems, which is then usually manipulated in a plethora of standalone spreadsheets—increasing both the complexity and workload involved in any ZBB initiative.

4)      Make modelling easy - the ability to model the casual relationship between activity volumes and the resulting resource and headcount requirements is also critically important. Managers need to make informed decisions about how changing activity volumes and different service levels impact costs. Again, if managers cannot easily model these relationships in the planning tool, a ZBB initiative will be swamped by an overabundance of disconnected spreadsheets.

5)      Reuse ZBB models for routine FP&A processes - when an organisation has already developed integrated business planning processes that use operational drivers to determine resource needs, then it already has a strong foundation for ZBB. On the other hand, if an organisation uses an incremental approach to planning and budgeting based on the previous year’s figures, the ZBB model could be the first enterprise-wide model to link activities of different business functions. FP&A teams should adapt the model as needed to support the annual budgeting process and rolling reforecasts, which will become more efficient and deliver greater insight. Repurposing models in this way means ZBB is no longer a standalone exercise, but an initial step in transforming enterprise planning and budgeting that could lead to fully integrated business planning.

Although ZBB is less likely to have a negative impact on employee morale than successive rounds of across-the-board cost cutting, well-planned internal communication and a cloud-based collaborative infrastructure to underpin the technology are needed before managers embrace this new approach to planning.

With your employees on board, and improved results or savings beginning to show, the true potential of ZBB will begin to materialise – helping firms across all sectors navigate the choppy seas of economic instability.

 

 

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