Zero-based budgeting - how procurement can play their part
In recent times, aspects of zero-based budgeting have made an appearance in the spend planning practices of many companies, but this past year has made the case for adopting the concept much stronger.
It isn't exactly new, but making room to start applying the principle is now possibly making much more sense for some organisations, as historical metrics and data might not be as effective as it has been during 'normal' years, especially with what has resulted in wuite a tricky to navigate supplier market.
What is zero-based budgeting?
Zero-based budgeting is about creating and preparing the budget completely from scratch with zero base – with every line of spending being re-evaluated, reviewed, allocated and justified at the beginning of each year or budget cycle with no influence from the past being taken into account.
It literally means starting from zero and proving why every cost needs to be directed to a specific project, line or category.
According to Samir Khushalani, partner at McKinsey & Company, a zero-based budget is "building from the bottom up, the true category demand and specifications as opposed to relying on historical patterns."
So contrary to other methods of building a budget that looks at the metrics and trends from the past to continue allocating the budget, the zero-based method starts by assuming that there is nothing from the past that should be carried forward or budget to be pre-committed.
Building and effectively using zero-based budgeting
Procurement, finance and management from stakeholder areas are usually the most involved in the process of building a zero-based budget – with procurement and finance having the market prices, tendencies and data to help allocate the budget in the right proportion, while the management from the business unit is responsible for justifying the expenses for the projects.
But procurement can have a bigger voice when it comes to making these decisions, especially when looking at the market, helping to identify which projects are a priority and how those projects will be accomplished and executed. They can also evaluate all the possible solutions for the execution to optimise time, money and possible alternatives to be more strategic which can go a long way in helping arrive at better figures to be used in the budget.
When setting a zero-based budget, the company allocates its resources to what will be more effective and more strategic for the moment and the near future while aligning the spending to the necessary projects instead of focusing on what was done in the past. Procurement can bring the vision of where the bigger opportunities for savings are and how the projects can be executed with more agility. Annual and monthly spending will be focused and allocated on what's important so that departments can have a clear vision of the strategy for each budget line.
It can also mean looking at the supplier network with more careful eyes and seeing if there are opportunities to start over or relocate the current suppliers to handle more strategic processes and gain time, money and expertise.
Samir Khushalani finished his speech about zero-base budgeting by defending it: "I see a financial risk in not doing it. If you don’t, what you come up with is an inaccurate estimate of demand and an inaccurate estimate of your requirements. It creates a lot of havoc down the road. A zero-based budget is a time well spent."
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