Zero-Based Budgeting vs. Incremental Budgeting

Zero-Based Budgeting vs. Incremental Budgeting

All organisations rely on budgeting as an important area in managing their finances. It deals with assigning available resources to different sections and projects to achieve set objectives. In corporate finance, two popular budgeting options are ZBB and Incremental Budgeting. Different methods in budgeting come with pros and cons, so it’s necessary to recognize their differences to make the right choice.

Zero-Based Budgeting: Considering the Budget from Scratch

Each time you use Zero-Based Budgeting, the process begins as if there were no prior budget. In other words, budget details from previous years are not reused. All expenses should be verified against current needs, no matter what was planned earlier for the school year. All areas of the business are examined and spending is decided for the near future, while discontinuing actions that are not useful anymore.

Under this way of planning, managers must go through each expense in their budget line by line. Rather than giving a marketing department the same or a slightly increased budget as the past year, ZBB asks: “How much must we spend to reach our goals this year?” It leads to a more reasonable way of dividing and planning the use of public funds.

Zero-Based Budgeting is valuable as it encourages companies to justify costs and work efficiently. An examination of every activity helps organisations cut outdated costs. It helps money be spent on what matters today and not just on projects funded in years past. By following this approach, every manager has to be clear and accountable regarding their budget requests and how they plan to benefit from them.

This way of preparing a budget, however, requires significant effort. Managers and their finance teams must work hard and spend a great deal of time carefully analyzing every task. Faced with lots of departments and thousands of costs, handling the work can be too much. In some cases, ZBB may not be necessary if there are not many changes in the company’s operations because it takes more work to implement.

This approach focuses on How do Major Cities run their budgets.

Unlike Zero-Based Budgeting, Incremental Budgeting is the most traditional way to set a budget by building on the last year’s budget. Rather than making a brand-new budget, it starts from the old budget and then changes the figures up or down by a set amount or by using income, cost and inflation figures.

If costs in a department went up to ₹10 lakhs last time and are expected to rise by 5%, then the department may not closely review the budget lines from the previous year, deciding instead to set the new budget at ₹10.5 lakhs.

Because Incremental Budgeting is straightforward and fast, organisations with regular and expected expenses use it more frequently. It saves time and people can act fast. Assuming managers do not need full justification for each line, the process will finish faster and with fewer resources.

Yet, the simple design of these simple synths is also what can make them less impressive. By making Incremental Budgets, managers may assume past spending was reasonable and efficient, but sometimes it is not. Consequently, funds may continue to be used on things that are not productive. Companies may continue to receive money for outdated projects only because they were given a budget for them last year. With little reason to look for ways to save money, departments in the government tend to leave a lot of money unspent in their budgets.

This type of Budgeting is not flexible when faced with large changes or economic problems. Being focused on past events, it may not reflect the swift changes happening in business. In some cases, it may misuse resources by preferring bigger departments over those with a current strategic advantage.

Making a Decision Between the Schools

The decision about which budgeting to use is guided by what a company requires. It works best when the company needs to limit costs, make the most of its resources or when there is a new direction required for its strategy. It can be very helpful in cases of tight budgets, business reorganizations or when new leaders try to adjust expenses based on their strategies.

On the other hand, if stability and having little time for detailed budgets is important, Incremental Budgeting works well. When the environment is constant and expenses remain similar, it runs well.

In most cases, businesses combine both approaches. Sometimes, they may target a few departments with Zero-Based Budgeting and have the rest of the organisation follow Incremental Budgeting. They can therefore gain the improvements offered by Incremental Budgeting and also remain clear about ZBB in the areas it is most useful for.

Conclusion

Zero-Based Budgeting is not the same as Incremental Budgeting. Though ZBB requires analysis and careful planning to keep things cost-efficient and accountable, Incremental Budgeting aims to be easy and offers regular continuity. A company focuses on one approach as its needs, structure and access to resources change.

Understanding the differences between the approaches is important for people involved in finance. Opting for different methods to set a budget or mixing them can help an organisation manage its finances and set future strategies wisely. If you have never handled money before or if you are an experienced financial manager, budgeting is always key.