Zero-based budgeting—The dos and don’ts of lasting change
Getting
the most from zero-based budgeting requires deft action from the start. Here
are some crucial lessons from the front lines.
A few years ago, we saw a resurgence in zero-based budgeting (ZBB), fueled by success stories from
the consumer-goods industry. Since then the resurgence has become a become more
of a flood, with more companies across more sectors recognizing that ZBB is not
only more achievable than ever—it’s also more critical as a way to fuel growth.
But not all efforts
have proved equal. Some organizations rolled out ZBB to great fanfare but
produced only modest results. Others saw their progress slip over time. The
disparities have left managers, investors, and analysts scratching their heads:
Why are some ZBB transformations greatly outperforming others?
To find the answers, we
analyzed 20 ZBB programs across industries. From those companies’ experiences,
we identified five ZBB dos and don’ts that are essential to get the full value
ZBB can generate.
·
Do:
Communicate and role model. For
any transformation that’s worth the name, there’s almost no such thing as too
much communication from leaders about what the transformation is trying to
achieve—and why. That’s especially important with ZBB, which upends
long-standing assumptions about how budgets and funding decisions should work.
But to lead to real change, communication takes
real work. When employees don’t understand the goals the company is trying to
achieve with ZBB or the rationale, they won’t do much more than comply with
what leaders ask them to do. Few will adopt ZBB whole-heartedly as a new way of
working. Instead, they’re much more likely to look for the first opportunity to
revert back to the old way of doing things. ZBB becomes a one-time event rather
than a lifestyle change.
That means building both
understanding and conviction. One multinational manufacturer took up the
challenge by rolling out a detailed communications plan for all employees.
Online training—reinforced by posters, email campaigns, videos, newsletter
articles and in-person presentations by leaders—helped employees change their
individual mind-sets. Simple messages made a big difference in behaviors, such
as encouraging better procurement practices: “Did you know that in 2017, late
supply orders cost us an extra $X million for rush delivery?”
Crucially, it wasn’t just talk,
recognizing that communication by action counts at least as much as by words.
Leaders at the manufacturer gave up their fast-lane, “executive” IT help desk,
and replaced their annual retreat with working meetings at headquarters.
When senior leaders keep operating
as usual, taking advantage of visible perks such as gold-plated relocation
packages, it’s hard for the rest of the organization to take ZBB seriously.
Conversely, when executives take up their responsibility to be role models,
visibly change their own behavior, and are the face of the ZBB effort, the
people they lead are much more likely to be willing to make their own changes
as well.
·
Don’t:
Make too many exceptions. ZBB
can be controversial, especially at first. That makes it tempting for leaders
to ignore or even wall off certain areas where resistance is likely to be high
or the rollout is likely to be especially complex. But every exception to the
ZBB rule undermines its legitimacy. Cost leaks from the parts of the business
that are in ZBB’s scope to those that aren’t. And discussions end up focusing
more on how to qualify for an exception than on how to get the most from ZBB.
For an appliance manufacturer, the
sacred cow was R&D, seen (with good reason) as the lifeblood of the
business. The CEO nevertheless included R&D within ZBB’s scope, despite
significant pushback from the function’s leadership. His persistence, combined
with the visibility ZBB provides, led the R&D team to discover that the
function was still spending money on high-risk moonshot projects that
supposedly had been stopped more than a year earlier. ZBB’s insights enabled
the team to rebalance its R&D funds across the innovation portfolio,
freeing up significant funds (and talent, an equally rare commodity) to improve
core products while still funding long-term bets at a more sustainable level.
·
Do:
Choose the right tools for the job. New technologies are essential for ZBB to work on
a day-to-day basis. To make well-informed spending decisions, managers need the
ability to move funds as their business needs change, something they can’t do
when the only data available are months out of date, and in categories that are
too broad to be helpful. Rather than trying to stitch together thousands of
individual spreadsheets, with all of the attendant delay and risk of
inaccuracy, advanced organizations are using cloud-based tools that allow for
real-time updating at line-item detail.
At their best, these tools assemble
and standardize vast pools of data from a wide range of sources—not just
general-ledger systems but also accounts payable and purchase orders. Advanced
analytics then match vendor names to categories and follow digital breadcrumb
trails to yield detailed insights. For a North American distribution business,
the resulting apples-to-apples comparisons led to a complete revamp of its
spending, which previously had been impossible because each business unit
followed its own accounting practices.
Customizing these systems and
training people to use them take time and resources. One medical-device
manufacturer tried to rush its implementation without sufficient time to adapt
the new tools to its core systems. Consequently, leaders couldn’t tell whether
units had met their savings targets until one to two quarters after the fact. A
consolidated financial-planning system broke through the logjam, so that
leaders could view current spending performance on dozens of subcategories and
intervene much more quickly when problems arose.
·
Don’t:
Sell your aspirations short. Setting targets based only on current conditions
can leave too much value on the table. New technologies such as robotic process automation are already achieving major productivity
breakthroughs in automating many back-office functions. The
result is often an entirely new way of working, such as at an insurer where
complex premium notices that once took two days to issue can now be done in 30
minutes.
To help your organization bank all
of the savings that these breakthroughs promise, start building them into your
planning now. A large retailer recently designed its program with targets set
at “full potential,” not just what was achievable in the current year. That
gave the entire organization an incentive to look for innovative solutions now,
rather than wait until all of the external constraints (such as store leases)
were dealt with first. And to guide savings capture in future years, the
company assigned initiative owners and drafted project charters from the very
beginning, so that individuals were accountable for progress.
·
Do:
Dig into detail—consistently. With ZBB, the value is in the details. What you
don’t know can hurt badly, while understanding true cost drivers can uncover
real opportunities and help you avoid potential land mines. Cutting too deep in
the wrong places can cause lasting harm to the business, so make sure teams
have sufficient resources and expertise to adapt benchmarks and set intelligent
targets to account for differences in industry, geography, and business model.
For example, make sure that steering committees and budget negotiations include
diverse representation so that as many potential issues as possible are raised
sooner rather than later.
Once the facts are known, the
process must be consistent. Base targets on sound analysis and insights, so
that people with budget responsibility can be confident that they are being
treated fairly. Likewise, conduct budget negotiations to a uniform standard,
with the burden of proof on the requestor. A strong governance structure, also
adhering to fact-based inquiry, then deals with disputes and reinvestments.
One service company balanced
adaptation and consistency by plotting each potential opportunity on a “pain
versus gain” matrix, designed to make sure that gains in financial savings
would be worth the pain to employees and customers in the specific business. At
the end of the target-setting exercise, leaders looked at all the opportunities
on that matrix and consciously chose to pass up some high-impact opportunities
that risked destroying employee morale.
Clearly there is not a
one-size-fits-all approach to ZBB. It’s important for the leadership team to
make these thoughtful choices early on in the program, communicate them to the
organization, and keep an open mind to adapt and adjust as it learns along the
way. While following these dos and don’ts will not guarantee a successful ZBB program,
we believe that they do set an organization on the path to achieving
significant and sustainable savings.
By Søren Fritzen, Kyle Hawke, and Phil Hoblet
https://www.mckinsey.com/business-functions/operations/our-insights/zero-based-budgeting-the-dos-and-donts-of-lasting-change
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