The 80-20 rule, also known as the Pareto Principle, states that 80% of all outcomes result from 20% of all causes. In business, this means seeking the most productive inputs that will generate the highest outcomes/returns. There are a number of practical applications for the 80-20 rule in diverse areas such as the distribution of wealth in economics, quality production control, business sales, and growth.
Key Takeaways
- The 80-20 rule, also known as the Pareto Principle, states that 80% of all outcomes (output) derive from 20% of all causes (inputs).
- The Pareto Principle was created by economist Vilfredo Pareto in Italy in 1906.
- The rule has far-reaching applications, including in quality production, the distribution of wealth, business, investing, and project management.
- In business, the principle asserts that 80% of a company's revenues should come from 20% of its customers.
Origins of the Pareto Principle
The 80-20 rule was invented by Vilfredo Pareto in Italy in 1906. According to legend,Pareto, an economist, noticed20% of the pea pods in his garden provided80% of the peas. He then determined20% of the population in Italy owned 80% of the land. The use of the80-20 rulehas since expanded beyond the alleged humble beginnings in Pareto’s garden.
Dr. Joseph Juran applied the 80-20 rule to quality control in the 1940s. He found that 80% of problems with products were caused by 20% of the production defects. By focusing on and reducing that20% of production defects, overall quality could be increased. Juran became an important figure in Japan after lecturing there extensively on quality control issues. His main phrase was, "thevital few andthe trivial many."
Managers at companies should identify the factors that are the most important to the company's success and give those factors the most attention.
The 80-20 Rule in Business and Investments
The 80-20 rule has found applications in business management. For business sales, 20% of a company’s repeat customers should be responsible for 80% of the sales. Also, 20% of the employees are responsible for 80% of the results.
For project management, the first 20% of the effort put in on a project should yield 80% of the project’s results. Thus, the 80-20 rule can help managers and business owners focus 80% of their time on the 20% of the business yieldingthe greatest results.
In investing, the80-20 rulegenerally holds that 20% of the holdings in a portfolio are responsible for 80% of the portfolio’s growth. On the flip side, 20% of a portfolio’s holdings could be responsible for 80% of itslosses.
Another method is to attempt to focus a portfolio on the 20% of stocks in the broader market that comprises 80% of the market’s returns; however, due to the uncertainty of future returns, both of these methods are difficult to put into practice. Stocks are inherentlyrisky assetsdue to the unpredictability of future performance.
One method for using the80-20rule in portfolio construction is to place 80% of the portfolio assets in a lessvolatileinvestment, such as Treasury bonds or index funds while placing the other 20% in growth stocks. The 80% in the lower-risk investment will collect a reasonable return, while the 20% in the higher-risk assets will hopefully achieve greater growth.
What Is an Example of the 80-20 Rule?
An example of the 80-20 rule is 80% of a company's revenues coming from 20% of its customers or 20% of a portfolio's most risky assets generating 80% of its returns.
How Do You Set Goals With the 80-20 Rule?
To set goals with the 80-20 rule, you primarily establish that 20% of your efforts/tasks will result in 80% of your results. For example, at work, 20% of the effort you put into your job will result in 80% of your tasks being completed/successful.
What Is the 80-20 Rule for CEOs?
CEOs can use the 80-20 rule by determining the 20% of tasks that need to be prioritized and done themself while delegating 80% of the tasks to their subordinates. This allows a CEO to effectively manage their responsibilities and be productive.
The Bottom Line
The 80-20 rule (Pareto Principle) has many applications that allow companies and investors to make the most efficient decisions. For example, a company would look to 20% of its customers generating 80% of its revenues. The same thought process can be applied to risk and reward in an investment portfolio. Overall, the application of the 80-20 rule helps to maximize efficiency.
FAQs
The 80/20 rule is not a formal mathematical equation, but more a generalized phenomenon that can be observed in economics, business, time management, and even sports. General examples of the Pareto principle: 20% of a plant contains 80% of the fruit. 80% of a company's profits come from 20% of customers.
What are real examples of the 80/20 rule? ›
The 80/20 rule is not a formal mathematical equation, but more a generalized phenomenon that can be observed in economics, business, time management, and even sports. General examples of the Pareto principle: 20% of a plant contains 80% of the fruit. 80% of a company's profits come from 20% of customers.
What is a real life example of a Pareto chart? ›
Here are some real world examples of the Pareto Principle you might find interesting: A 2002 report from Microsoft found that “80 percent of the errors and crashes in Windows and Office are caused by 20 percent of the entire pool of bugs detected.” 20% of the world's population controls 82.7% of the world's income.
What are some practical applications of the Pareto Principle? ›
Practical Applications
The Pareto principle can be seen across many sectors of business and within consumerism. Below are a few examples of where it might be found: 80% of the work in a group project is done by 20% of the group. 80% of revenues come from 20% of the products.
What are common examples of Pareto Principle? ›
80% of your success comes from 20% of your ideas. 80% of the public uses 20% of their computers' features. 80% of crimes are committed by 20% of criminals. 80% of sales are from 20% of clients.
How to apply 80/20 rule in life? ›
Here are some steps you can take to implement the 80/20 Principle in your daily life:
- Analyze your tasks: List all your tasks, activities, or projects in a week or month. ...
- Prioritize the vital few: Identify the top 20% of tasks that yield 80% of the results.
Pareto also observed that 20% of the pea pods in his garden contained 80% of the peas. His ratio seems to pop up everywhere.
Which of the following is an example of the Pareto principle? ›
Here are a few examples of the Pareto principle in action: 20 percent of employees produce 80 percent of a company's results. 20 percent of a given employee's time yields 80 percent of their output. 20 percent of software bugs cause 80 percent of the software's failures.
How to do Pareto analysis with example? ›
Pareto Analysis Steps
- Identify and List Problems. Write out a list of all of the problems that you need to resolve. ...
- Identify the Root Cause of Each Problem.
- Score Problems. Now, score each problem that you've listed by importance. ...
- Group Problems Together. ...
- Add up Scores for Each Group. ...
- Take Action.
The 80-20 rule, also known as the Pareto Principle, is a familiar saying that asserts that 80% of outcomes (or outputs) result from 20% of all causes (or inputs) for any given event. In business, a goal of the 80-20 rule is to identify inputs that are potentially the most productive and make them the priority.
Example. Consider an economy that contains only one good, which everyone likes. Then every allocation is Pareto efficient: the only way to make someone better off is to give them more of the good, in which case someone else will have less of the good, and hence be worse off.
How can you use the 80/20 rule to unlock success and maximize your impact? ›
Streamline the 80%.
This rule also encourages us to streamline our less critical tasks. If, for example, you find that 80% of your acquaintances contribute little to your life, consider investing more time in the 20% who genuinely matter.
What is the 80/20 rule in productivity? ›
Simply put, the 80/20 rule states that the relationship between input and output is rarely, if ever, balanced. When applied to work, it means that approximately 20 percent of your efforts produce 80 percent of the results.
What's the most productive way to apply the 80/20 principle to critical thinking? ›
What's the most productive way to apply the 80/20 principle to critical thinking? Focus on the 20% of efforts that impact 80% of the results. Defining a clear problem statement can help you avoid this common pitfall.
What is the 80-20 rule in relationships? ›
The 80/20 relationship theory states that you can only get about 80% of your wants and needs from a healthy relationship, while the remaining 20% you need to provide for yourself. Sounds like the perfect excuse to treat yourself to a spa day. This idea of an 80/20 time split is nothing new.
What is the 80-20 rule in relationships examples? ›
Satisfy 20% of your own needs and wants.
Focus on meeting those yourself so you can enjoy the 80% that your partner does provide. For instance, maybe you love spending time with your partner, but you two don't like the same movies. Once a month, take yourself out on a movie date.
What is an example of 80-20 rule time management? ›
For example, a business may find that 80% of its sales come from 20% of its products and could focus on improving those products to boost sales further. Similarly, an individual may find that 80% of their productivity comes from 20% of their work tasks and could prioritize them to achieve better results.
What is an example of the 80-20 rule in marketing? ›
The 80/20 principle (aka the Pareto Principle) states that roughly 80% of the effects come from 20% of the causes. In other words, a smaller effort can result in a greater output. For example, in marketing, it could be that: 20% of a client's marketing channels generate 80% of the traffic.
What is an example of the 80-20 rule in construction? ›
Following are few example of Pareto principle in construction projects: 80% of the works problem are from 20% of the employees. 80% of long meeting outputs could be obtained in 20% of the time. 20% of your time creates 80% of your results.
