Zero Based Budgeting
Zero Based Budgeting was originally developed by Peter A Pyhrr at Texas instruments. He defined Zero Based Budgeting as “an operating, planning and budgeting process which require each manager to justify his entire budget request in detail from scratch and shifts the burden of proof to each manager to justify why he should spend any money at all.”
Features of Zero Based Budgeting
→ It reviews a project from `scratch’ on an assumption that noting is to be allowed.
→ It deals with all aspects of budget requests of managers. Managers have to justify that a project is essential and of high priority.
→ It reviews critically both existing and newly proposed activities.
→ It sets priorities in respect of different activities and re-deploys the resources accordingly.
Process of Zero Based Budgeting
Zero Based Budgeting involves the following steps –
(i) Identification of decision unit – Decision units are identified in terms of responsibility centres. They should have a meaningful identification and evaluation.The amount of expenditure, scope, direction and quality of task are bases to justify a meaningful decision unit.
(ii) Preparation and development of decision packages – Formulation of decision package is a set of documents which identify and describe activities of the unit in such a way that management can evaluate and rank them against others competing for limited resources and decide to approve or disapprove it.
(iii) Ranking of priority – Decision packages are ranked by operational, departmental or executive managers on the basis organizational needs, availability of funds and other related factors. Ranking can be done by the following approaches or combinations of them – Judgmental approach, Comparison approach, Delphi method, voting approach.
(iv) Funding – The availability of resources of the organization is kept in mind and allocation of resources to various decision units is made. The resources should be adequate enough to meet the requirements of the selected alternatives.
Advantages of Zero Based Budgeting →
◊ It ensures optimum use of financial resources
◊ It weeds out wastage and inefficient units resulting in reduced costs and better productivity
◊ All activities are justified on cost benefit considerations
◊ It adds psychological push to managers to avoid wasteful expenditure, increases participation.
◊ It provides flexibility in the budget
◊ It links departmental objectives to corporate goals
Disadvantages of Zero Bases Budgeting →
◊ It is a lengthy and time consuming process
◊ It demands high degree of managerial skills and understanding of the organizational system
◊ Managers may resist new ideas and changes as everything cannot be justified
◊ Danger of emphasizing on short term gains at the expense of long term benefits
◊ Ranking the decision packages and cost benefit analysis require expertise and leads to high administration cost and responsibility