Understanding the 80/20 rule
We have all heard about the 80/20 rule before, but what is it exactly and how can it be applied to your business? Read more to find out.
March 8, 2021

"The fundamental core of the 80/20 rule is about identifying your best assets and using them efficiently to create maximum value or results."

The 80/20 rule, also known as the Pareto principle, applies to pretty much anything. From effective time management to how you run your business, the Pareto principle is versatile in its uses. The origin of the rule came from macroeconomics. In the early 20th century, the rule was used to describe the distribution of wealth in Italy.

In 1906, the 80/20 rule was introduced by Italian economist Vilfredo Pareto when he was harvesting peas in his garden. He noticed that 80% of his peas come from 20% of his pea pods. Intrigued, he also noticed a similar pattern where 20% of people own 80% of the land in Italy—a pattern which still holds water today with a small group of people holding most of the world’s wealth.

What is the 80/20 rule?

The 80/20 rule is very simple, and that is 80% of outcomes (outputs) come from 20% of causes (inputs). The main idea of the 80/20 rule is to prioritise the 20% of factors that will produce the best results and create maximum value.

Or to use an example, 80% of the company’s revenue stems from existing customers while 20% are from new customers. In this context, when a salesperson visits their clients once a month and brings snacks and goodies for them, the salesperson builds trust and familiarity with them. In most cases, the clients will make new orders or renew. However, the same salesperson needs to work four times harder to win a new account, which only contributes to a small part of the revenue that month.

What we are trying to convey is that the fundamental core of the 80/20 rule is about identifying your best assets and using them efficiently to create maximum value or results.

As you can see from the example we have given above, when you focus on lifetime value, you will achieve a standard where a sizable majority of revenue comes from existing customers and only a small portion of the revenue comes from new customers. This is the desired outcome as you do not need to apply a majority of your resources and efforts to sell to your existing customers.

When it comes to businesses, resources are always limited, and knowing how to manage your resources effectively is crucial in any industry. If you know your top 20% of customers contribute to 80% of your business’ growth, then ideally you would want to focus on retaining those customers and offering more services to them. The main point of the Pareto principle is that most things in life are not distributed evenly, so you should prioritise your resources to high-performing outputs.

Clearing up misconceptions

Misconception #1

First and foremost, many people misinterpret the 80/20 rule. Some may think that the 20% are important while the other 80% should be ignored, which is simply not the case.

When you have a limited amount of time, you would not be able to perform every little task. The 80/20 rule suggests you look through all the tasks you normally perform, pick the top 20% that creates the most results and focus on them. Whatever time you have left can be spent on the less productive 80%. Similar to how you study for an exam, you focus on the parts you know that are going to come out in the exam but you do not ignore the rest of the materials.

Misconception #2

The name of the 80/20 rule does not necessarily mean that 80% of the results must be caused by 20% of the input. The 80/20 rule is just a rough estimate of the typical distribution, oftentimes the results will vary. You can even have scenarios where 100% of the company’s revenue is caused by 20% of employees. The Pareto principle just wants you to utilise your assets as efficiently as possible.

As mentioned before, the 80/20 rule is versatile in its uses. You can use it to identify the factors critical to your company’s success and use them to create maximum value. Interested to learn more? Schedule a 30 mins call with our lead Marketing Consultant today!

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This article was contributed by Nelson Hon Zi Ming.

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