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
20% of drivers cause 80% of all traffic accidents. 80% of pollution originates from 20% of all factories. 20% of a companies products represent 80% of sales. 20% of employees are responsible for 80% of the results.
What is the 80 20 rule with practical examples? ›
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 some practical applications of the Pareto Principle? ›
Practical Applications
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. 80% of engine failures come from 20% of possible causes.
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.
What is a real life example of Pareto analysis? ›
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 is an example of the 80-20 rule in fitness? ›
In order to see results at the gym, lose weight or even maintain overall health, we're told that it's an 80/20 balance. Meaning 80% of your results comes from the food you eat, and only 20% of your results come from your workouts.
What is a practical example of Pareto efficiency? ›
Let's say Mary and Jo decided to split the pizza in half and not give any to Liza or Tia. Even though two girls are missing out on pizza, this is still Pareto efficiency because there is no way to make another girl better off (by giving her pizza) without making either Mary or Jo worse (by taking pizza away).
What is the 80-20 rule for students? ›
How Does The 80/20 Rule Apply To Our Studies? When we are looking at this principle in relation to our education, the primary factor we should consider is that 20% of the time you spend studying will be leading to 80% of the results you see.
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. What is the best tool for getting to a problem's root cause? Defining a clear problem statement can help you avoid this common pitfall.
What is the 80/20 rule in the workplace? ›
The 80-20 rule is a principle that states 80% of all outcomes are derived from 20% of causes. It's used to determine the factors (typically, in a business situation) that are most responsible for success and then focus on them to improve results.
Here are some examples you may have already experienced in your business: 80% of your sales volume is generated by 20% of your customers. 80% of your revenues are generated by 20% of your products. 80% of your complaints come from 20% of your customers.
What is an example of Pareto method? ›
The Pareto Principle illustrates the lack of symmetry that often occurs between the work you put in and the results you achieve. For example, you might find that 13 percent of work could generate 87 percent of returns.
What are 80/20 rule examples? ›
80% of crimes are committed by 20% of criminals. 80% of sales are from 20% of clients. 80% of project value is achieved with the first 20% of effort. 80% of your knowledge is used 20% of the time.
How to practice 80/20 rule? ›
This can be applied in many different aspects of your life including your work. For example, if 20% of your tasks are bringing 80% of your project results, you can consider making those specific tasks your priority. You can also keep in mind the 80% you can discard, rethink, or transfer to make your life easier.
What is a practical example of the Pareto Principle? ›
It's an uneven distribution that can be found in countless life and business situations. Practical examples of the Pareto principle would be: 80 % of your sales come from 20 % of your clients. 80% of your profits comes from 20 % of your products or services.
What is the 80-20 rule for dummies? ›
Once you have identified the 20% of tasks responsible for 80% of effects, prioritise them. These should be the areas that receive the most attention, resources, and effort. Focus on optimising the 20% of causes to increase their impact.
What is the most productive way to apply the 80-20 rule? ›
Prioritize the first 20% of your workday regarding the tasks you complete and know when it's time to pivot and make changes when working on the remaining 80% to ensure you don't waste too much productive time and energy.
How do you apply 80-20 rule in learning? ›
Simply put, 20% or less of the studying you are doing is leading to the majority of your results. Furthermore, 20% or less of your course content comprises the majority of the content on your exams. Remember, professors (whether they know it or not) are applying the 80-20 rule to their exams.
What is the general principle of the 80-20 rule? ›
Key Takeaways. The 80-20 rule maintains that 80% of outcomes comes from 20% of causes. The 80-20 rule prioritizes the 20% of factors that will produce the best results. A principle of the 80-20 rule is to identify an entity's best assets and use them efficiently to create maximum value.
