Zero Base Budgeting

Zero base budgeting is a revolutionary concept of planning the future activities and there is a sharp contradiction from conventional budgeting. Zero base budgeting, may be better termed as “De nova budgeting” or budgeting from the beginning without any reference to any base-past budgets and actual happening. Zero base budgeting may be defined as “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”.

CIMA defines Zero Base Budgeting as “a method of budgeting whereby all activities are re-evaluated each time a budget is set. Discrete levels of each activity are valued and a combination chosen to match funds available.”

It is a technique which complements and links the existing planning, budgeting and review processes. It identifies alternative and efficient methods of utilizing limited resources in effective attainment of selected benefits. It is a flexible management approach which provides a credible rationale for reallocating resources by focusing on systematic review and justification of the funding and performance levels of current programmers of activities.

The concept of zero base budgeting was developed in U.S.A. Under zero-base budgeting, each programme and each of its constituent part is challenged for its very inclusion in each year’s budget. Programme objectives are also re-examined with a view to start things afresh. It requires review analysis and evaluation of each programme in order to justify its inclusion or exclusion from final budget. Following steps are usually involved:

• Describing and analyzing all current or proposed programmers usually called “decision packages”. This consists of identification, analysis and formulation assists an evaluation in terms of purposes, consequence, performance measures, alternatives and cause and benefits. Decision units are the lowest level programmers or organizational entity for which budgets are prepared.
• Ranking of decision packages along with documents in support of these packages.
• The sources are allocated in accordance with the ranking.

Zero-base budgeting is based on the premise that every rupee of expenditure requires justification. The traditional budgeting approach includes expenditures of previous year which are automatically incorporated in new budget proposals and only increments are subjected to debate. Zero base budgeting assumes that a responsibility centre manager has had no previous expenditure. Important features of zero-base budgeting are:

• Concentration of efforts is not simply on “how much” a unit will spend but “why” it needs to spend.
• Choices are made on the basis of what each unit can offer for a specific cost.
• Individual unit’s objects are linked to corporate targets.
• Quick budget adjustments can be made if, during the operating year costs are required to maintain expenditure level.
• Alternative ways are considered.
• Participation of all levels in decision-making.

Difference between Traditional Budgeting and Zero Base Budgeting

• Traditional budgeting is accounting-oriented. Main stress happens to be on previous level of expenditure. Zero base budgeting makes a decision oriented approach.
• In traditional budgeting, first reference is made to past level of spending and then demand is made for inflation and new programmes. In zero base budgeting a decision unit is broken into understandable decision packages which are ranked according to importance to enable top management to focus attention only on decision packages which enjoy priority to others.
• In traditional budgeting, some managers deliberately inflate their budget request so that after the cuts they still get what they want. In Zero Base Budgeting, a rational analysis of budget proposal is attempted.
• Traditional budgeting is not as clear and responsive as zero base budgeting.
• In traditional budgeting, it is for top management to decide why a particular amount should be spent on a particular decision unit. In Zero Base Budgeting this responsibility is shifted from top management to the manager of decision unit.
• Traditional budgeting makes a routing approach while zero base budgeting makes a very straight-forward approach and immediately spotlights the decisions packages enjoying priority over others.

 Advantages of Zero Base Budgeting:

• Zero base budgeting is not based on incremental approach, so it promotes operational efficiency because it requires managers to review and justify their activities or the fund requested.
• Since this system requires participation of all managers, preparation of budgets, responsibility of all levels at management in successful execution of budgetary system can be ensured.
• This technique is relatively elastic because budgets are prepared every year on a zero base. This system makes it obligatory to develop financial planning and management information system.
• This system weeds out inefficiency and reduces the cost of production because every budget proposal is evaluated on the basis of cost benefit analysis.
• It provides the organization with a systematic way to evaluate different operations and programmers undertaken by the management. It enables management to allocate resources according to priority of the programmers.
• It is helpful to the management in making optimum allocation of scarce resources because a unique aspect of zero base budgeting is the evaluation of both current and proposed expenditure and placing it some order of priority.

Criticism against zero base budgeting:

• Defining the decision units and decision packages is rather difficult.
• Zero base budgeting requires a lot of training for managers.
• Cost of preparing the various packages may be very high in large firms involving large number of decision packages.
• It may lay more emphasis on short term benefits to the detriment of long-term objectives of the organization.
• It will lead to enormous increase in paper work created by the decision packages. The assumptions about costs and benefits in each package must be continually up dated and new packages developed as soon as new activities emerge.
• Where objectives are very difficult to quantify as in research and development, zero base budgeting does not offer any significant control advantage.