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Applications of the 80/20 Theory of the
Firm |
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Internally,
some resources, be they people, factories, or machines, will produce
very much more value relative to their cost than will other
resources:
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80% of the surplus is usually generated
by 20% of employees;
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80% of the
value created is likely to be generated in 20% of time when,
through a combination of circumstances, the employee is operating at
his/her highest level of effectiveness.
Action Implications:
Any corporation can raise the level of surplus by reducing the
inequality of output and reward within the firm. They can do it by
identifying the parts of the firm that generate the highest
surpluses and reinforcing these, giving them more power and
resources; and, conversely, reducing or stopping the expenditure on
non-performing resources.
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Externally, some markets, products or customers are much
more profitable than others:
Action Implications:
Successful firms operate in markets where it is possible for that firm
to generate the highest revenues with the least effort. They raise
the economic surplus, usually by a large degree, by focusing only on
those market and customer segments where the largest surpluses are
currently being generated. This will always imply redeployment of
corporate resources in favor of the most surplus-generating
segments.
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80/20
Analysis of
Profits |
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To achieve
sustainable growth through
effective reallocation of resources, conduct continuously an 80/20
Analysis of profits by its different categories:
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80/20 Principle
and
Your Business
The key theme of the
→
80/20 Principle applied to business is
how to create the greatest stakeholder value and
generate most money with
the least expenditure of assets and efforts. Any individual business can
gain immensely through practical application of this Principle. The most
important use of the 80/20 Principle is "to isolate where you are really
making the profits and, just as important, where you are loosing money.
Every business person thinks they know this already, and nearly all are
wrong. If they had the right picture, their whole business would be
transformed."
The game is to spot the few places
where you are making great surpluses – be that a product, a market, a
customer type, a technology, a distribution channel, a department, a
country, a type of transaction, an employee, or a
team – and to maximize
them; and to identify the places where you are loosing and get out.
Case in Point
Warren
Buffett
Warren Buffett – the richest man in the world and the most successful investor – said his
companies ability to generate such large profits is the result of being able
to focus on what is important, and not paying attention to things that would
distract the company...
More
Case in Point
Ford Electronic
Manufacturing Corporation
The 80/20 Principle is used in
many corporate
quality management
programs. In Ford Electronic Manufacturing Corporation's quality program
that won the Shingo prize,
just-in-time programs have been applied using the 80/20 rule (80% of the
value is spread over 20% of the volume) and top-dollar usages are analyzed
constantly. "Labor and overhead performance were replaced by Manufacturing
Cycle Time analysis by product line, reducing product cycle time by 95%."
Simple
is Beautiful
"Because business is
wasteful,
and because complexity and waste feed on each other, a simple business will
always be better than a complex business."
To succeed in
→
managing change
and transforming your
organization or business by applying the
80/20 Theory of the Firm, you need to
demonstrate that simple is beautiful and why. Unless you understand this,
you will never be willing to give up underperforming 80% of your current
business and overheads...
More
Effective
Selling and Competing
80/20 Principle helps you to
direct your attention where the real threat of competition exists. 80% of
your revenue comes from 20% of
your customers. Know who your top
revenue-producing customers are and make sure you meet their needs to win
their loyalty. "Focusing on
20% of your customers is a great deal easier than focusing on 100% of them."
Being customer centered on all your customers is impossible.
"But cherishing the core 20% is both feasible and highly rewarding."
The four steps to lock in your
core customers:
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Know who they are
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Provide exceptional or even outrageous service to them
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Ground
innovation in the relationship with this group – target
new products
and services at the core 20% of customers, developing them for and with this
group
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Aim to
keep your core customers for ever.
Improving Your
Margins
"Margins ‒ between value and cost,
between effort and reward
‒ are always highly variable". High-margin
activities constitute 20% of total activities but 80% of total margins. You
must interfere with this natural allocation of resources unless you wish to
see these imbalances to grow even further. Acknowledge the reality that the
majority of what your firm does is worth much less than the minority of high
margin activities and reallocate resources to take your firm to a new higher
level. Don't stop there – do that again. |
