For SaaS startups, the days of “growth at all costs” are long behind us — sustainable growth is the new watchword. Given the current economic malaise, startups need to account for every dollar, ensuring the proper balance between targeted resource allocation and flexible scenario planning. Strategic budgeting is the first step.
While there are many different budgets, zero-based budgeting (ZBB) is one of the most cost-effective types of budgeting. ZBB strives to ensure optimal allocation of resources towards a company’s strategic goals, all while cutting unnecessary expenses and creating a culture of cost-consciousness.
Read on to learn about some of the advantages and disadvantages of zero-based budgeting, as well as how you can implement it for your startup.
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What Is Zero-Based Budgeting?
Zero-based budgeting (ZBB) is a budgeting strategy where every expense — new or recurring — must be justified for each new budgeting period. This is a bottom-up approach, where individual departments explain how their expenditures contribute to the business’s overarching objectives.
Traditional budgeting, on the other hand, starts from the top-down. The biggest difference between the zero-based budgeting process and that of traditional budgeting, though, is that traditional budgets simply make incremental changes from the prior-year. That means they’re just about guaranteed to grow larger than they were in the last budgeting period. Where zero-based budgets start from zero, justifying each expense, traditional budgets tend to get “stuck in the past” — they’re static budgets, and have a difficult time adjusting to changing circumstances.
Why More Startups Are Adopting Zero-Based Budgeting
Why are so many startups turning to zero-based budgeting? Because it offers the combination of strategic flexibility and cost control that all SaaS startups need. This is especially the case today, where many businesses are worried about the effects of inflation, higher interest rates, and a generally turbulent, uncertain economy. Let’s look more closely at some of the benefits of ZBB, specifically for startups.
Improves Flexibility
For startups, the business landscape can change quickly. You may need time to pinpoint your product-market fit. Competition can suddenly increase, or a downturn could strike.
This highlights a major problem with traditional, incremental budgeting — it assumes the situation in a new budgeting period will be largely similar to that of the previous one. Zero-based budgeting makes no such assumptions. This flexible budgeting method allows finance teams the agility to readjust resource allocation based on the current situation, whether that’s a downturn or a simple increase in your SaaS cost of goods sold. That’s something traditional budgets can’t do.
For even greater flexibility, zero-based budgets can be made a type of rolling budget. Rolling budgets update based on actual performance, helping reduce the degree of variance. They’re called “rolling budgets” since they always roll forward, covering a consistent period (typically 12 months).
Makes it Easier to Identify and Eliminate Redundant Costs
Traditional, incremental budgeting is not great at cost reduction. Finance teams understand all too well that departments may spend their entire allocation, not because they have to, but because they want to justify increased funds for the following year.
That’s eating unnecessarily into your cash runway! Other common redundant costs include software (do you really need subscriptions to both ClickUp and Monday.com?) and excessive outsourcing. In incremental budgeting, it’s very easy for these costs to fly under the radar.
Contrast that with the cost management perks of zero-based budgeting. Justifying every line item means costs that aren’t contributing to the company’s objectives and sustainable, healthy growth are discarded. Freeing up this money gives you more resources to allocate to strategic objectives, helping you achieve them faster.
Encourages a Proactive and Conscious Spending Culture
A quick look at the current startup market shows the days of “growth at any cost” are long behind us. Startups must operate as if just-in-time funding isn’t guaranteed, and work on shoring up their cash runways while promoting sustainable growth.
That’s exactly the kind of mentality that zero-based budgeting encourages. ZBB is centered on financial goals. Once you determine your goal — say, increasing MRR by 20 % over the next quarter – you can justify expenses like new hires or targeted marketing in terms of ramp rate or CAC, respectively.
Assessing each cost in terms of its ROI helps you develop a conservative mentality. Even if you’re growing fast — really, especially if you’re growing fast — cost consciousness is crucial.
Sets a Foundation for Your Plan
As mentioned, zero-based budgeting is a bottom-up approach to budgeting. But that doesn’t mean it can’t fit into top-down objectives — the opposite is true.
Think of it like this: you set your top-down plan with individual goals like product rollout or increasing market share, and then zero-based budgeting fits every departmental expense to those goals. You’re working backwards from your objectives — say, a certain revenue target, which then justifies increases in sales and CSM headcount. So, it doesn’t need to be a question of top down vs. bottom-up budgeting — you can (and should) combine both.
An Example of Zero-Based Budgeting In Action
Let’s say you’ve recently moved from seed funding to Series A funding. You’ve found a good product-market fit, and are ready to begin proving to investors you have a sustainable business model.
That means building up revenue, and that means targeted marketing. With incremental budgeting, you’d simply build on the previous budget — engineering would most likely get at least the same amount of funding they received last period. But now, that can’t be justified in terms of the company’s new goals.
You need to pivot some of your engineering budget to your marketing budget, strategizing with commissions and sales quotas. Zero-based budgeting allows you to make this move without being constrained by historic allocations.
You make the pivot, and are performing well for a while. But then, out of the blue, some regulatory changes pop up that affect your cost structure. Or maybe variable costs dramatically increase.
To plan for changes like these, you need to leverage scenario planning. By pairing zero-based budgeting with scenario planning, you build a flexible, agile strategy that helps you maximize and protect the resources you have.
The Zero-Based Budgeting Process
Here are the basic steps involved in the zero-based budgeting process.
1. Collect and Organize Your Data
Zero-based budgeting can be a big change from the way your startup is used to doing things, so your first step should be to get everyone on board. Explain what zero-based budgeting is, and why you’re doing it.
From there, you’ll need to break the company down by decision units. These are the components of the business that will set aside individual allocations (typically departments). Decision units must gather historical data, looking at activities, expenses, and cost drivers.
2. Define Clear Objectives
What are your business goals with this budget? It’s important to lay these out clearly because, when you get to the justification step, you’ll need to ask department heads how each line item connects to those goals. Are you planning to increase revenue by lowering CAC? Maybe you’re looking to expand product features.
Departments should submit decision packages, which are documents that include initiatives, the expenses associated with them, and how those expenses contribute to the overall goals.
3. Justify Every Expense
Now comes the fun part — explaining how each expense fits into the objectives outlined in the previous step.
This is where you put departmental leaders to the test.
You can list out every expense, grouping them by type. Ask questions such as, “How are these expenses bringing the company closer to its short — and long-term goals?” or “Which are necessary for employee morale?”
Individualize your questions based on department. When speaking to sales, for example, you might ask how many sales reps and AEs they’re planning to bring on over the next budgeting period. How do those fit to the overall revenue goals? Did they account for ramp rate?
For engineering, you could ask about the ideal ratio of team leaders to engineers, and why that’s the case.
Reference our 2024 financial planning blueprint for more department-specific questions. Your goal is to refine the decision packages, making sure they don’t include any unnecessary overspending.
4. Rank All Expenses
Your next step is to rank the decision packages in order of priority — how important they are for reaching the company’s overarching goals.
You’ll then allocate funds based on this ranking. Zero-based budgeting has also been called zero-sum budgeting since you’re meant to allocate every dollar — when you’re done, the sum should be zero. However, you don’t want to allocate every dollar to objectives. Make sure you have an adequate cash runway, and that you build an emergency fund.
5. Monitor and Update
A zero-based budget isn’t a one-and done method of budgeting. That would defeat the whole purpose of flexibility in comparison to traditional budgets.
Continuously evaluate how your budgets perform by measuring variances against actuals. This will help you build tighter budgets and unlock additional cost savings.
ZBB is driver based. As you build more and more zero-based budgets, you’ll understand better and better how each line item ties into achieving those goals. Implement this knowledge into your new budgets.
Challenges of Zero-Based Budgeting
Zero-based budgeting has significant benefits, but it also presents finance teams with unique challenges. Below we walk through some of the biggest.
Resource-Intensive
Reading through all the above, you may have had a thought — this won’t be the easiest process. That’s fair. In fact, the biggest criticism of the zero-based budgeting approach is usually that it’s time-consuming and resource-intensive. This can seem to go against startups, who don’t necessarily have much of either.
The right business budgeting software can help immensely in cutting down the time and resources necessary to perform zero-based budgeting. Mosaic, for example, connects directly to your ERP, allowing you to view your expense breakdown by type and department in a clear, visually friendly format. ZBB is a granular process — Mosaic makes it easy to drill down into your data, easily identifying cost drivers.
Difficult to Scale
Theoretically, ZBB would become more difficult the larger the organization gets, making it difficult to scale. If a startup is growing fast, it could be tempting to stick to incremental budgeting. With software, however, all of your expenses are available in a centralized dashboard — you don’t need to scour hundreds of GL accounts, meaning you can stick to zero-based budgeting as long as it’s convenient.
Requires Collaboration
Zero-based budgeting is a cross-functional process. But transparency can be difficult to achieve, especially if you’re working with spreadsheets that are prone to errors and issues with version control.
Mosaic provides real-time insights by integrating with your pre-existing systems — a single source of truth. Department heads have the visibility they need to build accurate bottom-up plans based on data, not gut feelings.
Focuses on the Short-Term
ZBB is short-term focused. Therefore, it’s important to see the forest for the trees and make sure you’re still focusing on the long-term. Making your ZBB a rolling budget can help with this, since you can plan out over several years. Think of each ZBB period as a little stepping stone towards your long-term goals.
Zero-Based Budgeting + Mosaic: A Winning Combination for Startups
The zero-based budgeting system is an agile, flexible process ideally suited to early-stage startups, one that can serve as an excellent foundation for your larger financial plans. Pairing zero-based budgets with rolling forecasts and other strategic processes like scenario planning allows finance teams to ensure every dollar counts, all while protecting the company against the uncertainty of the market.
These days, that’s critical.
Mosaic can help. By bringing all of your financial data into one, centralized location, you get a clear, easy-to-understand view of expenditures. By connecting those expenses with over 150 SaaS metrics like customer acquisition cost or ARPU, you can understand the ROI of each dollar spent. Mosaic also makes it simple to turn your zero-based budget into a rolling budget, bringing it in line with actuals from the preceding month.
We get it: zero-based budgeting can feel a bit overwhelming. That being said, it’s worth it — especially for startups! See for yourself how Mosaic helps streamline the process by requesting a personalized demo today.
Zero-Based Budgeting FAQs
How is ZBB different from traditional budgeting methods?
Traditional budgeting methods always build on the preceding period’s budget. Zero-based budgeting starts from zero every time. Each expense must be justified, including expenses that were part of the previous year’s budget.
