As selling, general & administrative expenses (SG&A) are becoming a greater priority, managers and executives are under constant pressure to deliver more and at the same time, reduce company costs using offshoring, outsourcing or strategic sourcing. Unfortunately, in most cases, that is not enough.
When it comes to identifying cost-reduction opportunities, executives often feel they just have to be cold-blooded and hard-hearted as findings are sometimes too high level to link to the actions that need to be done in order to unlock the savings.
Fortunately, there is a more effective alternative: zero-based budgeting (ZBB). In traditional incremental budgeting, departmental managers justify only variances versus past years based on the assumption that the “baseline” is automatically approved. By contrast, in zero-based budgeting, every line item of the budget, rather than only the changes, must be approved.
Even though zero-based budgeting is more time-consuming than incremental budgeting, it helps and drives managers to find cost-effective ways to improve operations. Furthermore, it expands staff motivation by giving more noteworthy activity and responsibility in decision-making. Zero-based budgeting, if properly implemented, can reduce SG&A expenses by 10 to 25 percent. But why are there so few companies that implement this method of budgeting?
ZBB is sometimes confused with other methods or finance techniques of budgeting. Below, we are exploring 3 of the most common myths about zero-based budgeting.
1. ZBB means zero budget
Zero-based budgeting is much more than trying to build a budget from zero. It is more of a mindset than a process. It starts with no assumption about what it will take to run and grow your business for the next year. You are literally building your cost structure from scratch with no pre-authorized funds.
2. No more luxuries for your company
Yes, you should reduce your company’s costs but not to extreme levels. Take in mind your company’s size and top-down target. Zero-based budgeting makes executives work and think hard on how to fund every function within their control and then, analyze and arrange which ones to eventually fund. It is more effective to aim for 10% reduction targets and agree to reinvest some of it into more productive areas than a direct 30% reduction target.
3. Stop everything you are doing
As stated before, zero-based budgeting is more time-consuming than incremental budgeting and requires specific training due to its complexity. But that doesn’t mean that all your employees should stop their daily routine and focus only on the new ZBB program. The program should be led by a central, trained and dedicated coordination team supported by finance and IT professionals. They will focus on identifying their mission, setting detailed saving targets and completing the program in five to ten months.
Zero-based budgeting aims at helping your company build a culture of cost management that will deliver prominent and sustainable savings. It can free up unproductive expenses so that you can redirect them to more productive areas. In the long run, it is an organization’s call as to whether it needs to put time and labor in the planning activity to provide more accurate numbers or go for the simpler technique of incremental budgeting.
Do you think your organization needs a better way to manage its SG&A expenses? Is zero-based budgeting for you? Join the CFO Executive Summit 2018 in Prague and learn more about current trends in the financial industry. Don’t forget to like our Facebook Page and follow us on LinkedIn and Twitter to stay up to date!