- A Pareto analysis is a tool to help business leaders improve their companies by identifying key problems and opportunities.
- The technique is named after Italian economist Vilfredo Pareto.
- There are many different ways to conduct a Pareto analysis, but they tend to revolve around the same guiding principles.
- This article is for business leaders looking to understand where root problems are and how to improve the business as a whole.
Those in charge always have many decisions to make. The question is, which should be tackled first? Many business leaders conduct a Pareto analysis to answer that question. The Pareto analysis helps prioritize decisions by which ones will have the greatest influence on overall business goals and which ones will have the least impact.
The Pareto analysis, or Pareto principle, is also known as the 80/20 rule because it is based on the idea that 80% of a project's benefit can come from doing 20% of the work. Conversely, 80% of a situation's problems can be traced to 20% of the causes.
The technique is named after Italian economist Vilfredo Pareto, who observed in 1895 that 80% of Italy's wealth belonged to only 20% of the population, according to ResumeLab.
While the Pareto principle is primarily used in business contexts, it exists in others. ResumeLab offers examples of the Pareto principle in the era of the COVID-19 pandemic, marketing and business, time management, computing, and online dating.
These are some business and marketing examples:
- 80% of complaints come from 20% of customers.
- 80% of profits come from 20% of the company's effort.
- 80% of sales come from 20% of products or services.
- 80% of sales are made by 20% of sellers.
- 80% of clients come from 20% of marketing activities.
[Related: How to Deal With Difficult Customers]
The benefits of using a Pareto analysis
Here are some of the top benefits of using a Pareto analysis:
- It increases organizational efficiency. The Pareto analysis allows you to shift your company's focus, prioritize your problems, and identify the root causes of those problems. Companies are more efficient when they focus efforts in the places where they will see the greatest ROI.
- It enhances problem-solving skills. The Pareto analysis lets you organize work-related problems into a clear set of causes and effects, which you can then address individually.
- It improves decision-making. Employees and businesses can use a Pareto analysis to decide which practices are most effective and how to improve current operations. Learn how benchmarking can help improve operations.
- It improves time and change management. You can use the Pareto analysis to look deeper into the effectiveness of any changes you make or need to make in order to improve your business practices. This helps you manage these changes and any time you spend implementing them.
- It helps in planning, analysis and troubleshooting. You can use the Pareto analysis for planning and troubleshooting any changes you will make to your business practices.
- It shows the cumulative impact of issues on business. Because the Pareto analysis is versatile and applicable to multiple areas of business, it provides a look at the overall impact of challenges across the entire organization. This helps you and your company's other decision-makers identify which problems to resolve first.
How to make a Pareto chart
There are several ways to conduct a Pareto analysis, and they all revolve around the same guiding principles. According to the website Mind Tools, these are the six steps to conduct a Pareto analysis:
- Identify and list the problems. Write a list of all the problems you need to resolve.
- Identify the root causes. Determine the fundamental cause of each problem.
- Score the problems. The scoring method used will depend on the type of problem. If the problem revolves around improving profits, then the scoring might center on how much each problem is costing your business. If you are trying to boost customer satisfaction, you might score the problems on the number of complaints that would be eliminated if the problem were solved.
- Group the problems. Organize the problems by root cause.
- Tally the scores. Add up the scores for each cause group. The group with the top score should be the highest priority, while the one with the lowest score should be the lowest priority.
- Take action. Start tackling the causes of the problems. Deal with the top-priority problem or group of problems first.
If you want a graphical representation of the problems, the Process Excellence Network says to divide each problem's score by the grand total of all of the scores to get a percentage. Then, draw a chart with a horizontal axis and two vertical axes. Mark the left vertical axis in increments from zero to the grand total of all the problem scores. On the other side, mark the right vertical axis in increments from 0% to 100%. [Read related article: What Is a Decision Matrix? Definition and Examples]
Next, construct a vertical bar diagram, with the highest percentage score on the left and lowest on the right. According to the Process Excellence Network, the height of each bar should correspond with the value on the left axis and the percentage of the total on the right axis.
Finally, add a line graph to the top to figure out what percentage of the total problems will be solved when more than one are addressed.
"Beginning at the left zero point, plot a line showing the cumulative percentage total reached with the addition of each problem classification," writes Steven Bonacorsi on the Process Excellence Network website. "The line should end at the 100% mark on the right axis."
Tip: After making a Pareto chart, create a vertical bar diagram and add a line graph to the top if you want a graphical representation of the problem.
How businesses use Pareto analysis
The Pareto analysis helps managers to focus on what is most important and urgent for their business. Here are some examples of how businesses use this tool:
- 20% of marketing efforts represent 80% of the results. While marketing and communications efforts are hard to measure, this is a critical principle for anyone who wants to achieve the maximum results with less marketing effort. By identifying which 20% is the most valuable, you can double down on those efforts and reduce resource expenditure on the other 80% of marketing operations.
- 20% of posts generate 80% of traffic. If you work with social media and content marketing, you can use the Pareto principle to analyze which posts were most effective, discover their similarities, and use them in future content. This can also help you optimize your other posts.
- 80% of the quality failures originate from 20% of the tasks. If you work in process management, you can use the Pareto analysis to establish critical tasks and determine which tasks fall into the 80% of quality failures. Then, model the process to make those tasks more efficient.
Key takeaway: Pareto analysis helps businesses understand what they need to focus on and make improvements in each of these areas.
Pareto analysis case study
There are many ways for businesses to use a Pareto analysis to their advantage. For example, if a company wants to improve customer service at a call center, the first thing they need to do is survey customers to find out why they were unhappy with the call center's service.
After getting customer responses back, the call center can divide the information by complaint category, which may include "too long on hold," "no evening or weekend staff," "not knowledgeable," "not courteous," "transferred too many times," "could not locate file," "no phone payment options," "hard to understand representative," and "charged more than promised."
From there, they would total the number of complaints in each category and determine the percentage of each complaint compared against the total amount. Then, they would find the cumulative percentage of the categories by adding them together. Based on this data, they can determine which issues account for 80% of the problems. In our call center example, the primary culprits might be "too long on hold," "no evening or weekend staff" and "not knowledgeable," as they account for approximately 80% of the total complaints. [Related: The Best Call Center Services]
In light of the analysis, it is easy to determine that the call center needs to concentrate their efforts on those three complaints to improve their overall customer service.
Other examples are available online:
Chad Brooks contributed to the writing and research in this article.