Kaizen Budgeting

Companies create budgets to plan the use of limited resources, namely money and personnel. Budgets enable companies to allocate resources according to needs and priorities, then track how effectively they adhere to those budgets. Budgeting typically encompasses the planning involved in specifying capital, people and material into achievable goals. Kaizen budgeting operates from a somewhat different perspective, as it also factors in the costs related to improving products.

“Kaizen” is a Japanese concept and term that means continuous improvement. Instead of striving to make big, significant changes, people or companies incorporate small, incremental changes and improvements into everything they do. Many Japanese companies like Honda employ Kaizen via the creation of quality circles, employee suggestion incentives and contests and a focus on the contributions of all.

Kaizen budgeting is budgeting focused on continuous improvement from a product perspective. Budget estimates include these expectations of continuous improvement. While it incorporates the cost of improving a company’s products, Kaizen budgeting also has the aim of reducing actual product costs below a specified threshold. As with all things Kaizen, this reduction occurs incrementally over time. This contrasts with typical budgeting, which focuses instead on project costs based on current practices and methods.

In Kaizen budgeting, when company managers do not meet their budgeted cost reductions they analyze the operating function or area in which they did not meet the goals. This analysis provides information that managers can use to make adjustments in the budget or in the process. Identifying cost reductions and making the changes to the process or product necessary to implement these improvements hinges on strong communication. Managers must involve the workers responsible for producing the products, the accountants responsible for purchasing materials and supervisors that oversee these processes. In this way Kaizen budgeting has a ripple effect, helping the entire company adhere to Kaizen principles, not just the accounting or departmental budgeting staff.

An additional benefit of Kaizen budgeting is its focus on performance improvements and cost savings. Unlike traditional budgeting, which defines success as adherence to the budget, Kaizen measures success through cost reduction and performance improvements. Therefore, Kaizen budgeting is more deeply integrated in the overall functioning of the company. Managers cannot simply compare actual to budget on a monthly basis and make adjustments. Managers must continually monitor and adjust, which helps improve the company’s overall operational efficiency, productivity and profitability.

Companies with entrenched barriers to communication, such as a poor working relationship between management and employees or between salaried and hourly employees, may be unable to obtain the necessary buy-in to make the process work effectively. Those companies that have used Kaizen budgeting for several years also may experience the law of diminishing return. Theoretically this makes analyzing processes to identify changes with minimal impact less cost-effective.