Zero-based Budgeting Needs a New Twist

The March 25th Wall Street Journal featured an article on the Heinz-Kraft merger.

But the article was not about brands or markets. It was about slashing costs the old fashioned way: Zero-based Budgeting (ZBB). In Zero-based Budgeting every line item of the budget must be approved, rather than only changes. ZBB was developed in the 1960s and it requires department managers to justify every line in the budget with the baseline being zero not simply variance from last year. The Brazilian private equity firm 3G Capital Partners is using the financial tool as a key ingredient for reshaping the U.S. food industry and getting shareholder value…at least in the short run.

Clearly acquisitions require cost cutting, especially when there are redundancies. We also agree with 3G Capital Partners’ intolerance for waste. Being lean is table stakes in most industries. 

But as the article points out “The ultimate success of 3G's tactics has yet to be proven. While it has made headway cutting costs, the bigger challenge for companies like Heinz and Kraft will be reigniting growth.”

Here’s where zero-based budgeting needs a twist – Capability Life Cycle Management. ZBB, compared to a traditional hierarchical and departmental view, will lower the cost of the business model in a time when more value innovation, not merely cost reduction, is required. The process should yield both. ZBB as part of Capability Life-Cycle Management will help companies like Heinz-Kraft lower costs and find the operational investments to drive higher value. To do so, companies must change their lens from organizational hierarchy to business capabilities.

This approach uses the company’s value proposition to establish cost/performance goals for capabilities based on value contribution. Capabilities are what organizations have to do to execute strategy. Capabilities are a much better lens than organizational units as it is the capabilities that create value and consume costs. In order to get a better handle where to target reductions, companies need to link strategic value (shown in the illustration), performance, and costs — not simply costs.

Here’s how to navigate the paradox of taking out cost and growing the business:

1. Clarify Business Strategy: Know where you are going so that you don’t burn or build the wrong bridges.
2. Declare your Growth Strategy before considering cost take-out: Identify the capabilities required for growth. When it gets cold, don’t burn the axe.
3. Focus on Strategy Execution not strategy elegance: Take out and reallocate cost without compromising strategy execution.
4. Develop capabilities: Stay out of the “people, process, and technology” weeds.
5. Document capability gaps: Sort out good enough, excess, and shortfall.
6. Establish an investment agenda: Focus and sequence, then execute with conviction.
7. Design organizational and IT infrastructure: Evolve and adapt. Don’t accumulate.
8. Manage Transformation: Run, Improve and Transform the organization. Don’t just cut costs.
9. Manage Capabilities Continuously: Know when and how to shift from cutting to growing.
10. Adopt Agile Practices: Iterate. Don’t ruminate.

3G Capital Partners is focused on managing P&L for long-term value and certainly understands indexes; Capability-Life Cycle Management can be a new twist on ZBB to helps focus cost reduction in the right areas.

I welcome your comments below.

Check Accelare’s White Paper “The Cost Take-out Challenge” that illustrates these ideas more fully: