Created by the American accountant Peter Pyhrr when he was a controller at Texas Instruments from 1969 to 1971, Zero-Based Budgeting (ZBB) became one of the most used methodologies to manage costs and expenses in all types of organisations.
Although ZBB is always relevant to highlight wastage in businesses, historically it has been more utilised in periods of worldwide political and economic instability such as the 2008 Global Financial Crisis, the 2010 European Debt Crisis, and the current Coronavirus Pandemic.
During the COVID-19 pandemic the ZBB methodology can play a key role in the process of reorganising and reengineering private and public organisations, preparing them for the challenging future. The implementation of Zero-Based Budgeting and its concepts is one of the management solutions offered to clients by Aquila, assisting with both consulting and training. The objective of this cost planning methodology is to create Budget Stacks using an approach based on two main levers:
- Efficiency: to aim for the best cost-benefit relationship for the budget; and,
- Value-Added: to rethink the budget based on expected deliverables, targeting the minimum possible resources to perform the activities (threshold) and additional enhancement scenarios.
1] Map Deliverables: A deliverable is the result of a sequence of activities to create something concrete and measurable. Basically, identify all results produced by a department to represent its purpose. It is important to note that the deliverables must have well defined Service Level Agreements (SLAs ) aiming to link them to a defined level of value-added.
2] Identify Cost Items: After mapping the deliverables, identify and sort the resources (people, technology, materials, etc.) that enable the achievement of all the required deliverables in terms of quantities and unit costs.
3] Delineate the Threshold: Define the minimum scenario to ensure the execution of all essential deliverables complying with legal requirements and guaranteeing the survival of the business. This is the base of the Budget Stack.
4] Define Incremental Costs: Additional elements that are non-essential deliverables, those above the SLA threshold, and are usually accepted to improve results, increase product/service quality, or mitigate risks. The more aligned these factors are to the business strategy, the closer the related incremental costs are to the threshold scenario (business survival).
5] Prioritise Budget Stacks: Sort scenarios (threshold + additional costs) according to budget guidelines and prioritise each defined scenario. The prioritisation exercise is usually conducted by grouping the needs and wishes of cost centre and department managers in terms of what is needed to be allocated in the budget to achieve the strategic plan (e.g. entering a new market with higher quality requirements).
According to Pyhrr, all expenses must be explained by clear deliverables and spending scenarios. The ZBB must provide detailed information about the resources required to perform the desired business’ objectives.
Sooner or later (we hope sooner rather than later!), we will be on the other side of this pandemic. The application of Zero-Based Budgeting brings greater speed and assertiveness to decision making. Budget Stacks aligned to the Business’ Strategy are a useful tool both in challenging markets — in which one must promptly cut less relevant increments — as well as in recovering markets — where a reprioritisation of investments in new increments can be completed quickly.