What is Zero Base Budgeting?
Zero base budgeting is a strategy that is often employed by businesses, non-profit organizations, and even individuals in planning an operating budget for an upcoming calendar year. What sets this approach aside is that there is no assumption on the front end of resources in hand to fund the budget. Instead, the line items contained in the budget are based on forecasts of revenue that will actually be generated and received during the period covered by the budget.
In other methods of preparing a budget, there is usually some amount of resources of revenue that is carried forward from a previous period. With a zero base budgeting approach, there is no financial cushion that is included in the determination of how many resources will be earmarked for each section of an operating household budget. Instead, the idea is to determine the budget allotments based on the reasonable expectation of collected revenue during the period. For example, an individual may use zero base budgeting by planning each month of the annual household budget based on the net income from a job, but not include financing any line item from interest income sources or savings that were accumulated during the previous year.
Many companies and organizations prefer to utilize this budgeting technique, even if there are a number of resources in hand to handle a significant number of expenditures in the budget for the upcoming year. This approach creates a situation where the company is prepared to deal with a shortfall of revenue by drawing on resources that were in place, but considered to be outside of the budget. Since unanticipated downturns in sales, as well as increases in operational costs can occur in any business, zero base budgeting is certainly a prudent approach to the budgeting effort.
Zero base budgeting can be more of a challenge than other budgeting methods. Often, this approach requires the organization or company to be more realistic about the ability to fund each line item. In some cases, this may help a corporation to think twice about expenditures that could undermine the continued operation of the company if the anticipated revenue for the calendar year falls below projections. Alternatively, zero base budgeting does not preclude the addition of a new venture during the calendar year, if collected revenue exceeds those initial projections.
@Logicfest -- as you've said, zero-based budgeting isn't always possible but that is not necessarily a bad thing. There are a lot of businesses with variable incomes that do control spending and manage to keep enough cash in reserve to carry them through rough times.
Frankly, any business that can have money in reserve at the end of the year is doing well.
This is an extremely conservative form of budgeting that is a great way to keep spending in check. However, it can only be taken advantage of businesses that are reasonably certain about their revenue.
For example, a Chamber of Commerce or trade group that has dues paying members can effectively project a zero-based budget if the number of members is more or less constant. A law firm, on the other hand, might not be able to project its revenue so easily -- the number of cases and what kind they are might vary so greatly that estimating a revenue stream with any accuracy is next to impossible.
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