Like traditional budgeting, zero-based budgeting is a system that aid in managerial planning and decision-making. However, it reverses the process of traditional budgeting. Under traditional budgeting managers are not required to justify all the expenditure incurred by the department, but only the increments from the previous budget should be explained in terms of the value added to the firm. Zero-based budgeting as its name implies, request that all items and expenses are justified by the responsible manager, thus providing a zero cost allowance.
Zero-based budgeting thus enables a comprehensive examination of the department’s costs and acts as a proper cost control exercise, which enhances efficiency and effectiveness. An example that can be applied to further illustrate the above mentioned difference is how the marketing budget is prepared under both scenarios. If the traditional budgeting system is adopted only the incremental costs have to be justified.
If for instance, the marketing budget for last year was as follows: Marketing Budget $ Salesmen Salaries 50,000 Advertising and Promotional Costs 45,000 Commission on Sales 3,000 Administrative Expenses 34,000 132,000 If for instance the marketing manager expects that in this year, the advertising and promotional costs and commission on sales will increase by 15%, only such increase need to justified by the departmental manager in terms of the value generated to the organization.
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If the zero based budgeting technique is applied, all the expenditure even those not increasing have to be explained. Thus the administrative expenses and salesmen salaries of $34,000 and $50,000 have to be justified by the marketing manager. This system ensures that only the costs that will derive value to the corporation are included and thus aid in controlling operational expenditure. 1. 2 Stages in preparing the budget These two methods of budgeting also differ in the way they are prepared and implemented.
The traditional system, gathers information from past year budgets, plans the firm’s activities in line with the mission statement and corporation plans and prepares the functional budgets accordingly based on such stages. The process of zero based budgeting is completely different with the exception of the strategic plans, which are also considered. It commences through a definition of decision packages, which is a detailed description of the firm’s functions in order to enhance individual evaluation. This is followed by an assessment and ranking of such decision packages noted.
Once all decision packages are prioritized in terms of their benefits to the company in aiding her in meeting its corporate plans, the resources are allocated to the respective sections. 1. 3 Distinction arising between the advantages and disadvantages of both methods The differences between zero based budgeting and traditional budgeting can also be further amplified by outlining the advantages and disadvantages of each, which differ due to the systems nature, which is different. In the following sub-sections we will thus describe their relative benefits and limitations.