What the 80/20 Rule Means For Your Business


Tuesday, February 25th 2020, 7:09 pm
By: News On 6


80 20 rule
When you get 80% of your results from 20% of your customers, that’s the 80 20 Rule in effect. The 80/20 rule helps businesses find areas that have the most impact. This allows those business to focus their efforts and resources on those areas. Here’s how the 80/20 rule can affect your business.

History of the 80/20 Rule

The 80/20 Rule is also called the Pareto Principle, after Vilfredo Pareto. He was an Italian mathematician and economist who developed and published it around the turn of the 20th Century. Another name for it is the Pareto Distribution.

Pareto laid out the principle when describing his finding that 20% of the people in Italy owned 80% of the land. Pareto had previously noticed that 20% of the pea pods in his garden produced 80% of the peas.

He also employed it to describe how income was distributed among national populations. That is, he found 20% of people earned 80% of the nation’s income. As time went by, the 80/20 Rule began to be observed in other areas, including business.

80 20 Rule Business Applications

80 20 rule
The 80 20 Rule’s role in business was popularized beginning in the 1940s by Joseph Juran, an influential expert in quality control. Juran primarily applied it to production problems.

Juran specifically noted that an outsized proportion of defects tended to result from a small number of causes. By working to eliminate this small number of causes, he found, organizations could more efficiently reduce errors and defects.

In general business, the 80/20 Rule helps decision makers focus efforts and resources where they have the most impact. Commonly cited instances of the 80/20 Rule in business include.

  • Customers and sales: Twenty percent of customers generate 80% of a business’ sales.
  • Customer complaints: Twenty percent of customers produce 80% of complaints.
  • Employee productivity: Twenty percent of employees create 80% of output.
  • Marketing efficiency: Twenty percent of marketing efforts generate 80% sales.

There are similar relationships between innovations per employee, sales per product, decisions per hour of meeting time and more. The general idea is that inputs are not equal, and that some have more influence on the desired outcome than others.

Pareto analysis can help improve business efficiency. For instance, a company may decide to focus customer satisfaction efforts on the 20% of customers who provide 80% of sales. This approach is expected to produce better sales growth than a customer satisfaction effort evenly distributed among all customers.

Companies may also use Pareto analysis to get rid of problems by, for instance, trimming their customer list or shrinking the number of markets served.  Employers may use the 80/20 Rule to ferret out workers causing more than their share of problems, such as absenteeism. Then these employees might get more training, motivation or even face termination.

80 20 Rule Limits

The 80 20 Rule comes in handy when observing relationships. However, businesses seldom use it as a hard-and-fast principle. That is, it’s not unusual to find relationships that don’t follow the 80/20 Rule.

For instance, quite often the relationship between and desired outcomes and high-powered influences is not exactly 80% to 20%. It may be 70% to 30%, or 90% and 10%.

In some cases the total of the relationships may not add up to 100. That is, 20% of customers may produce 90% of sales, for a total of 110%. Or the same 20% of customers may produce only 70 percent of sales, for a total of 90%.

It’s also possible for the 80/20 Rule to give misleading direction. For instance, say 20% of a company’s employees are sales people and they produce 80% of revenues. That doesn’t mean the other 80% of employees are not pulling their weight.

Accountants and delivery drivers typically don’t generate sales. They contribute in other ways that this analysis doesn’t measure. Using a Pareto analysis to compare salespeople to other salespeople might still provide useful insight, however.

It is similarly difficult to use the 80/20 Rule the same way in different situations. In one business the owner may be the person primarily responsible for generating sales. In another a group of salespeople make most of the effort. Different organizations display different Pareto relationships.

The Bottom Line

80 20 ruleThe 80/20 Rule can help businesses gain insight into issues and opportunities so they can respond more effectively and efficiently. By identifying elements contributing most to a given outcome, businesses can better target resources to remove obstacles and exploit openings.

Small Business Tips
  • Still having a hard time navigating the 80/20 Rule? A financial advisor can help. Finding the right financial advisor to help you fine-tune your business finances doesn’t have to be hard. SmartAsset’s free tool matches you with financial advisors in your area in 5 minutes. If you’re ready to be matched with local advisors that will help you achieve your financial goals, get started now.
  • The 80/20 Rule shouldn’t spur value judgements about the relative value of customers, employees or products. The fact that one person or group has an outsized impact on one measure doesn’t necessarily diminish the importance of others who contribute less on that measure. It is important to consider circumstances when applying the 80/20 Rule to your small business.

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The post What the 80/20 Rule Means For Your Business appeared first on SmartAsset Blog.

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