The 80/20 rule, also known as the Pareto principle (introduced by Italian economist Vilfredo Federico Damaso Pareto), is a simple management formula that states that 20% of the causes are responsible for 80% of the results. It is a non-technical, generalized formula that can be applied to many events or situations. The figures 80 and 20 are not fixed; they can be flexible in many different events.
For a better understanding we can look at a few examples. We can start with the analysis done by Pareto himself which showed that 20% of the Italian population possessed 80% of the property in Italy. He later also analyzed other personal and professional affairs where he found similar patterns. In business, this rule is often used to show that 80% of revenue comes from 20% of a firm's products/services or even customers. Using this rule in a business can help managers analyze sales performance and identify strong as well as weak areas of sales for their company.
Here are a couple ways we can use the 80/20 rule in sales analysis:
- Identify important customers: A business should give importance to all its customers. But we seldom realize that all customers are not the same and we cannot satisfy all of them equally. Some are willing to pay more than others and have differing levels of service required and hence differing profitability. If we look at sales data by customer we will often find that only a few handful of customers make up most of the revenue. Others may purchase from us more periodically and some require huge effort to service even though overall revenue from them might be negligible. Worrying about this latter group causes us to miss concentrating on those few important customers. So its important to try to identify those 20% of customers that are generating 80% of the revenue and spend time and effort to serve them well.
- Segregate customers geographically: Another interesting study is to survey which geographical areas valuable customers come from. People from particular geographic areas may need some specific services that are better fulfilled by your business. So why waste limited time, money and effort marketing your services to people not in those optimal areas? In Pareto principle language: 80% of your valuable customers probably reside within 20% of the geographical area that your marketing & sales team covers. Identifying those important geographical areas will help businesses utilize their marketing and sales resources better.
- Segregate customers demographically: Many marketing savvy retailers request customers to fill out surveys that ask demographic details like income, marital status, age, education, etc. to store in their database and use for insights and marketing purposes. This insight can help identify the demographic segments that are likely to buy certain products. For example an author can apply the 80/20 rule by identifying which demographic groups like to read his/her books. The author could then use that insight and narrow down his/her marketing efforts by targeting only those demographic groups.
- Identify strong sales channels: It’s quite natural that all of your sales professionals won’t sell the same. Few of them will bring you your most valuable customer accounts. Help those top performers perform even better and keep them motivated with more incentives. Similarly analyze which sales channels overall produce better outcomes and which don’t. Improve the weak ones and invest in the strong ones.
Similarly we can use the 80/20 rule to analyze time and budget spent on various marketing activities and other related parameters to improve sales outcomes. Leveraging the the 80/20 rule to identify opportunities for increasing sales is pretty easy and can really help.