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SWTCH by Pigment
Three days of predictions, insights, and advice from leaders in finance, sales, HR, supply chain and more
Register now here
By Larysa Melnychuk, CEO and Founder at FP&A Trends Group and International FP&A Board
The concept of Zero-Based Budgeting (ZBB) is by no means new. It has been around for almost 50 years and has been used by many commercial and non-commercial organisations whose overriding objectives are to shed unnecessary expenses.
Over the last ten years, as organisations were swept into a more dynamic world of black swans and perfect storms, the traditional budgeting process has become increasingly more obsolete and widely criticised.
Nevertheless, as many businesses are still not ready to completely abandon traditional budgeting, ZBB has become a great intermediary that helps not only to “justify the expenses” but also to understand the business’ key drivers and develop an analytical and participative planning process. This is a great enabler for a driver-based modelling and planning process, underpins modern and agile FP&A today.
This is the method of developing a plan from scratch or “zero base” by examining every cost or P&L/BS. Previous years’ budgets are not considered as every item of the plan needs to be justified in relation to the current year.
The International FP&A Board has debated on this subject in many different places around the globe.
Here are some of the advantages and disadvantages that senior finance leaders have identified:
Pros:
Cons:
In recent years, ZBB has expanded its horizons beyond simple cost base analysis. Its focus now is on helping to identify overall business drivers. This is an excellent method to use when developing a Driver Based Planning model. It encourages collaborative business planning and business partnering.
It could be a great start to organisational, analytical transformation, the first step on the journey to the value-adding Rolling Forecast, and the going “Beyond Budgeting”.
According to McKinsey research, of the 238 companies that announced cost-reduction programs between 2003 and 2014, only 26 per cent were able to sustain the reductions for four years. And only 17 per cent of the 238 were able to grow at the same time.
Finance leaders from the International FP&A Board identified the following critical steps needed for the successful implementation of a ZBB process:
For the best results, ZBB could be used in combination and as an enabler for different modern FP&A processes, as demonstrated in the below figure. Namely, this is a good starting for understanding the key business drivers and harmonising planning processes across an organisation. This is a great enabler for the value-adding Scenario Planning process and analytical Rolling Forecast.
At one of the London FP&A Board meetings, a case study from a Fortune 100 company’s implementation of a ZBB process was shared.
The following challenges were identified at the beginning of the process:
From the words of the ZBB Director, “Starting with ZBB in such an environment is unlikely to be effective in the long run. ZBB needs visibility and standardisation. “
In other words, there are two critical success factors for a value-adding ZBB process (see figure below):
1. Visibility, namely
2. Standardisation, namely
The company that implemented the process achieved a cost-saving of around 25%.
ZBB has been considered part of the organisational DNA and has been used regularly at different critical parts of the business.
There were some lessons learnt by the ZBB project team that was shared with the Board as following:
Siva Raj Jeyarajah, Executive VP at Maybank, recently shared his valuable ZBB experience with the FP&A Board in Kuala Lumpur, Malaysia. His insights make a great conclusion to this article:
“ZBB is an excellent way to recalibrate and reassess the resources you have for the better alignment with the strategy in being profitable and sustainable.
However, the process may become a tedious and very time-consuming exercise if performed annually. As the result, it may become counterproductive and not value-adding.
Thus, it becomes more important to still practice ZBB at a smaller scale in parts of the organisation that warrants it. For example, we practice ZBB in key areas which are very sensitive to the environment and very critical to business, namely in Capital Expenditures and Marketing budgets.
Other areas can still run on the traditional process, but at some point, they will need to be reassessed through ZBB as well. In current times, where markets and business environments are extremely violative and fragile, this should be done within a 3 to 5-year cycle. Smaller businesses, especially those digitally inclined, should do ZBB much more frequently.
Now doing ZBB cannot just be an academic exercise. That’s the easy part. The most challenging part is the commitment from the Board and the process to make tough decisions and executing them. This should be institutionalised so that the entire process delivers the right outcome.”
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