Why Using Zero-Based Budgeting Is Recommended To Most Organizations

Why Using Zero-Based Budgeting Is Recommended To Most Organizations

Most budgets are created by taking the previous budget, comparing it to the actual expenses, adding in anticipated new programs, and often merely adjusting the numbers by an estimated percentage, often based on the cost of living, or some other factor. While this is the prevalent method used in budget preparation, many people, including me, feel it is not the most effective way to create a budget. The use of the traditional budgeting method has also created a widespread attitude, by many, that the budgeting process is merely an exercise, rather than a valuable financial tool, that it should be.

Conventional budget preparation techniques often do not evaluate the value of programs, nor do they assist in the prioritization that organizations and other entities should perform to make them as effective as possible. Organizations need to plan on an ongoing and continuous basis, if they are to evolve as they must to strive and survive. They need to evaluate how they spend their money, on a regular basis, to assure that their organization is getting the most “bang for the buck.” Often, it is not necessarily the amount of money that an organization spends, but rather how it spends its money. Generally, an evaluation of an organization’s budget, as well as its Profit and Loss Statement, indicates that there are times when more should be spent on certain items, while there are also situations when there should be less monies spent on other specific items.

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Zero-based budgets force its preparers to look more deeply into its budget. In following this technique and methodology, an organization will use a budget not only as a financial exercise and guideline, but also as a serious forecasting, planning and action/ result related document. Organizations that utilize zero-based budgeting must look at how they are presently spending money, line item by line item, and ask important questions. Doing this, organizations ask whether they are prioritizing their programs and expenditures in the most efficacious manner. They look at each of their programs, evaluate them, and determine if they should be continued. This causes the organization to discuss and decide whether more or less monies should be spent on each item than previously. This helps create a focus where organizations are better able to think about its future direction, and creates a form of “thinking outside the box.”

When zero-based budgeting is not performed, organizations often continue spending money (“good money after bad”) on programs that may no longer be relevant, or simply are not a “good fit” for the organization. Often, that money could be better spent in other areas, and since most organizations do not have unlimited revenue, they must carefully spend their funds. Evaluation of a budget via zero-based technique integrates an evaluation of finances and how they align with the organization’s mission and purpose.

Zero-based budgeting is often misunderstood and misconstrued by untrained leaders, who may have simply heard that zero-based budgeting is good. These individuals often do not understand what it truly represents. The single biggest misconception that I have observed, on several occasions, is when an organization’s treasurer or budget officer says he has prepared his budget using zero-based budgeting. Rather, what has often been done is that the treasurer takes it to mean that a specific amount is allocated in a specific area, and that whoever in the organization responsible for that area, then has the right to determine how to spend the money, within those budgeted constraints. However, zero-based does not mean that one must spend the monies in a specific area, if some cost savings is found, that accomplishes what needs to be done for less expense.

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I urge all organizations to consider the use of zero-based budgeting. In order to do that effectively, effective usage of budgets, and fiscal responsibility should be part of the curriculum of the organization’s leadership training.