One of your primary responsibilities as a business leader is making decisions. You need to be decisive and resolute in your approach, directing the operation and strategy of the business to maximize results for your shareholders.
There are many tools and rubrics you can use to make better decisions, but one of the most effective ones is the Pareto principle. What exactly is this principle and how can you practically use it to shape your business decisions for the better?
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What Is the Pareto Principle?
The Pareto principle is the general rule that predicts that within a given system, 80 percent of the results can be attributed to 20 percent of the inputs. Hypothetically, this applies to almost everything, both in and out of the business world.
For example, in a given piece of software, the 20 percent of most-reported bugs in the system are likely responsible for 80 percent of the errors. Roughly 20 percent of the movies that are made are responsible for generating 80 percent of film industry revenue.
Note that this principle is not a “hard” rule. It doesn’t apply to everything, and it’s not hard to find exceptions to the rule. Also, these percentages are not exact; you might find that 70 percent of your results are attributable to 30 percent of your inputs in some scenarios.
Keep this in mind as you begin to integrate this principle into your decision making.
Applications for the Pareto Principle in Business
Let’s take a look at some of the applications for the Pareto principle in business decision making.
· Investing. If you’re looking to invest, you should know that approximately 20 percent of your investments are going to be responsible for 80 percent of your gains. When making major purchases, committing to acquisitions, or expanding the business strategically, you need to look at the minority of investments that are likely to pay off in spades.
· Sales. One of the most common applications of the Pareto principle is in sales; 80 percent of your revenue probably comes from 20 percent of your clients, and 20 percent of your salespeople are responsible for generating 80 percent of your total sales. Using this information can help you sell more and prioritize your best customers.
· Marketing. There are dozens of different marketing strategies you can use, and infinite variables to tinker with, but only 20 percent of your strategies are going to reach peak effectiveness. You need to delineate between these effective strategies and less effective ones.
· Personal productivity. You can also think about the Pareto principle as it applies to your personal productivity. You can accomplish the majority of your productive work in a relatively small sliver of time.
Using the Pareto Principle Effectively
So how do you use this principle to make more effective business decisions? The Pareto principle is more than just a novelty, but it does take some effort to functionally apply it:
· Measure everything. Before you can start making decisions with this model, you need to have a steady stream of objective data to work with. That means you should measure everything, including your personal productivity, your sales, your marketing results, and other variables. That doesn’t mean you need to carefully scrutinize or analyze every piece of data you gather, but you need to have a robust platform where you can find information when you do need it.
· Define desired outcomes. The Pareto principle is somewhat vague, so before you start applying it, define what you mean by “outcomes” – and define what your desired outcomes are. In a given context, you might optimize for sales, revenue, leads, productive work, or return on investment (ROI).
· Define inputs. Similarly, you need to define your inputs. You need to understand what you’re investing and how you’re investing it. For example, how many people are working on this problem? How much are you paying those people? How much are you incurring in secondary and tertiary costs?
· Trim the fat. Savvy business owners are accustomed to cutting costs whenever necessary or prudent. The Pareto principle makes this easy. Once you figure out where your top 20 percent lies, you can quickly and easily make cuts from the remaining 80 percent.
· Focus on your big winners. Devote more money and attention to your biggest winners – the employees, strategies, and clients who bring 80 percent of the value to your organization. Increasing your investments, adding new incentives, and providing bonuses can all help.
With the Pareto principle in mind, you’ll be in a better position to make effective decisions for your business. You can maximize the value of your best performers and eliminate your worst performers. It’s a gradual process, but one that ends in your success.