Understanding Zero based budgeting
Zero based budgeting is used as a managerial tool to control the costs. It got popularity since the early 1970’s. The ZBB was developed by Peter A. Pyhrr. He defines,
“Zero based budgeting is a planning and budgeting process which requires each manager to justify his entire budget request in detail from scratch (hence zero base) and shifts the burden of proof to each manager to justify why he should spend any money at all. The approach requires that all activities be analyzed in decision packages which are evaluated by systematic analysis and ranked in order of importance”.
Zero based budget as managerial tool
Most of the businessmen were accepted that the zero based budget can be used as a managerial tool. The reason is that zero based budgets are integrating the managerial functions of planning and control. Even though, no businessman can introduce ZBB in their business concern. But, Ex-President Jimmy Carter of the United States of America, then Governor of the States of Georgia, introduce ZBB as a means of controlling state expenditure.
A budget is nothing but the expression of objectives of an organization in numerical terms. A budget can be effectively used as a managerial control if input of an activity has a direct relation with the output of these activities. For example, quality raw materials are supplied to production department certainly the output of such production department has quality. But there are some activities that have no direct relationship with other activities. In other words, the input has no relationship with output. Even though, a direct relationship can be created with the help of ZBB viz., the output of legal staff and office personnel.
Generally, high level of educated persons in legal matters must be appointed as legal staff. If so, the organization can get success. At the same time, by appointing an ordinary educated person in legal matters, an organization can get success through zero based budgeting. The reason is that ZBB develops and use standard cost for such activities.
Accuracy in Zero based budgeting
A budget is prepared by taking previous year budget as base. This type of approach is followed by many business concerns. Moreover, the likely changes of current year are also considered over and above the past experience while preparing a budget. If the previous year’s budget has any draw back or error that has not been find out by any body so far, it is very difficult to prepare an accurate budget for in the years to come. These things are overcome in the zero lose budgeting.
Stages involved in Zero based budgeting
The following steps are involved in the preparation of ZBB
1. Each separate activity of an organization is identified and designated as a decision package.
2. The management can evaluate such a decision package and rank it against other activities of an organization.
3. The management can decide whether the decision package is to be approved or not.
4. If a decision package is approved, it should be analyzed as the extent of achieving goals of an organization.
5. The management can identify the cost of minimum efforts required to sustain each decision package.
6. Alternatives for each decision package are considered in order to select better and cheaper options for the package.
7. Manager ranks the decision packages in order of priority for resource allocation.
8. Resources are allocated to the packages.
Advantages of Zero based budgeting
The following are the advantages of ZBB.
1. It is highly useful to non-profit or service organizations.
2. Costs may be saved in inefficient operations.
3. Since the resources are allocated on cost benefit terms, there is a better utilization of resources.
4. It forces the management executives at all levels for active participation in budgeting process.
5. It ensures careful planning.
6. The finance manger gives a clear picture about the extent of finance available and the consequences of raising the finance.
7. It does not carry any inefficiency and forward the same to next year.
8. It promotes operational efficiency since it is not based on incremental approach.
Generally, the zero based budgeting try to overcome the weaknesses of conventional budgeting.
Disadvantages of Zero based budgeting
The following are the disadvantages of ZBB.
1. In the case of large-scale business organization, a number of decision packages are prepared and it involves more expenses.
2. It is a time consuming process.
3. More paper work is involved in the preparation of ZBB.
4. Managers can be threatened by zero based budgeting.
5. The manager may develop fear and oppose new ideas and changes.
6. There is personal bias in the ranking of decision packages.
7. Administration and communication of ZBB may create many critical problems.