ZERO Based Budgeting

Contents Definition Historical development Steps Involved

1. Decision Units2. Decision Package3. Decision Making

AdvantageLimitations Conclusion

Definition of Zero-Base Budgeting The Objective of Zero Based Budgeting is to “reset the clock”

each year. The Traditional incremental budgeting assumes that there is a

guaranteed budgetary base-the previous year’. Zero Based Budgeting implies that managers need to build a

budget from the ground up, starting at zero. Resources are not necessarily allocated in accordance with

previous patterns and consequently each existing item of expenditure has to be annually re-justified.

Purpose - ZBB is to reevaluate and reexamine all programs and expenditures for each budgeting cycle by analyzing workload and efficiency measures to determine priorities or alternative levels of funding for each program or expenditure.

Through this system, each program is justified in its entirety each time a new budget is developed

Historical development of Zero Base budgeting ZBB is used in the private and public sectors for decades. Jimmy Carter’s use of it in Georgia in the early 1970s. In the private sector, the major leap forward occurred with the

development at Texas Instruments Inc. of a way to handle the mass of data. This involved the implementation of a “Decision Package” approach to prepare the 1970 budget for the Staff & Research Divisions.

Steps involved in zero base budgeting1. Identification of decision units2. Development of Decision packages3. Review and ranking of decision making

Identification of decision units

A specific manager should be clearly responsible for the operation of the program.

It must have well defined & measurable impacts. It must have well defined & measurable objectives. Identify and describe a particular activity.After the identification of appropriate decision units, the

next step is to prepare for each of these a document describes the objectives or purposes of the decision unit and the actions that could be taken to achieve them. Such document is called “Decision Package”.

Development of Decision packages1. Mutually exclusive – Contains alternative ways of doing a

job.2. Incremental – Defining different levels of efforts

Decision packages will have work packages Costs, returns, purpose, expected results, Alternatives available, Consequences if activity is not performed or reduced.

Example - Opening a HospitalStaff(Doctors, Nurses…)Equipments and increased staffEmergency beds and less normal beds Increasing beds and other facilities

Decision Making - Review and Ranking of decision PackageDeciding to accept or reject or amend the activity.Once the decision packages have been prepared, they are

ranked on an ordinal scale i.e 1st, 2nd, 3rd, etc in order of priority using Cost benefit Analysis.

Take a Decision Package:1. Is the activity under our control.2. Recognizing less effective activities.3. Validate – Arrangements(Elimination)4. Make the activity profitable

Advantages of zero base budgeting Out of date inefficient operations are identified. Allow managers to quickly respond to changes in external

environment. It Promotes questioning and challenging attitudes. It ensures efficient use of limited resources by allocating them

according to the relative importance of the programs. The annual review of the programs indicates the relative worth of

the programs and thus ensures no programs continues beyond its productive life.

It helps the management to design and develop cost-effective techniques for improving operations.

The corporate objectives can be achieved more successfully under zero-base budgeting.

The establishment of decision units makes the performance evaluation system more effective.

Limitations of Zero Base Budgeting Increased paper work. Cost of preparing many packages. Subjective ranking. More emphasis on short term benefits and Qualitative benefits are

ignored. Small organization cannot afford it. The identification of decision units and decision packages creates

number of problems for the organization(Decentralized). The process of zero base budgeting requires experiences,

intelligence, expertise, and continuous training on the part of executives. Thus , it is not suitable for an ordinary organization.

ConclusionAllow managers to quickly respond to changes in external

environment. It promotes questioning and challenging attitudes. It ensures efficient use of limited resources by allocating

them according to the relative importance of the programs. Cost effective decision making and your CFO will love it..

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