Ever spend time on something that wasn’t worth the effort because the benefits or returns were low? Have you seen those brick-and-mortar shops selling plenty of items that finish their inventory? Well maybe some, but at least most of them won’t sell their total inventory fast enough. And that is where the 80-20 rule comes in.
What is the 80-20 rule, how is the Pareto Principle used?
The 80-20 rule, also known as the Pareto principle originated from Vilfredo Pareto when he found out that 80% of the land in England belongs to 20% of the people.
The Pareto Principle states that for many outcomes, about 80% of consequences come from 20% of the causes or actions. In other words, if you take the brick-and-mortar retailer example, the retail shop will generate 80% of its revenue from 20% of its inventory or its item because of its popularity.
You can also say that 80% of its profit comes from 20% of its items sold. That means the other 20% of its profit carries about the remaining 80% of the remaining items.
Why is the 80-20 rule important?
Most companies operate under the 80/20 rule.
20% of customers accounts for 80% of its revenues.
The 80-20 rule in business is one of the golden nugget rule. Whether marketing, finance, sales, or any role that you’re in, this principle is suitable for everyone. Of the many benefits, here are my favorite highlights.
- Increase your Profit Margin
- Find out what works for your business and what doesn’t
- Focusing on the right things and eliminate the others
- Be more efficient
Increasing Profit Margin
If you’re struggling with your profit margin, you especially might want to look into implementing the 80-20 rule immediately. Here’s why.
As the earlier brick-and-mortar retail example, you can see that having more inventory generally reduces your profit margin because some items are less profitable than the others.
Based on Pareto Principle, if the retail store were to gauge what items were high in margins and are low, then compare it with revenue for those items. You will be able to find out your 80-20 stock turnover.
Note: Although there are less profitable items, you may not want to eliminate them. Businesses often use this less profitable item to attract consumers to cross-sell more profitable items. Depending on the way you execute your strategy, it may be worth not to totally eliminate less profitable items.
Find out What Works for your business and What Doesn’t
Use the Pareto Principle to find out what is beneficial to your business and what doesn’t. If the topic seems too broad to define what is “GOOD” or “BAD” to your business, then try going back to the basics by thinking about your profit and loss statement first. Because no matter how much your customer likes it, if you don’t make a margin, you won’t be able to thrive.
If a bubble tea shop is selling 20 different types of drinks, they will realize that about 4 drinks will create the most profit for the business while selling the others means barely breaking even.
Narrow it down to find out what works for your business and what doesn’t. Then you can compare it to your long-term goals and short-term goals, do you need to eliminate or what do you need to change in your current state?
Be more Efficient while Focusing on the Right Thing
Efficiency doesn’t determine how far you go but it does determine how fast you go. However, no matter how efficient you are, you will still need to focus on the right thing.
What is the “right thing” to focus on? Well, there isn’t a hard and fast answer to this but you can take a look from this perspective. Here are some tips to help you focus on the “right thing”.
Think and weight out the outcomes, whether good or bad.
Open up to possibilities.
Observe and improve.
I hope you find these questions useful. The objective of the questions is to help you focus on the 20% that generates 80% of results.
Note: Being efficient but not focusing on the right things defeats the whole purpose.
P.S. Sometimes when asking yourself the questions above, you might want to consult a third-party for opinions and suggestions. A third opinion may bring up a valid point you may have overlooked.
I’d like to share with you a question I ask myself every night before the next morning. It was this.
What is the one thing that I intend to complete it, first thing in the morning?
Within a short period of time, I gained a sense of purpose because I know what needs to be done every morning when the sunlight hits the curtains. Not only this, I had a sense of fulfillment because what was done felt worthwhile because of the “Focusing on the Right Thing” point.
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