Vilfredo Pareto (1848-1923) was an Italian economist, philosopher, and industrialist who contributed much to the field of economics and quality. Many of his economic philosophies led to the field of economics to move from one of social philosophy into a data intensive field of scientific research and mathematical equations. However, as much as Pareto did for the study of economics and quality control, we can apply some of his theories and principles to help us run better businesses and help entrepreneurs make their businesses more profitable.
What Is It?
The Pareto Chart is one of the ‘Seven Basic Tools of Quality Control.’ It helps highlight the most important factors from among a group of many factors. In quality control, it is often used to represent the most common sources of defects or the highest occurrence of defects. It is a simple bar chart that displays the number of occurrences on the left vertical axis and the category of occurrences on the horizontal axis. While not required, you can add a right vertical axis which represents the cumulative percentage of the left axis to the total. It’s self-explanatory when you see an example.
While this is a silly example, it shows the most common occurrence of reasons for students not having their homework in school. You can use this same chart tool to evaluate most any business process on which you can collect data.
Why Is This Important?
As an entrepreneur, this is a valuable tool for managing your business. Even though you don’t care why students didn’t hand in their homework, you probably do care why you get complaints from your customer service or your delivery function, or why your accounting department can’t get the books closed on time or maybe what are you biggest overhead expenses. There are as many applications as there are brilliant entrepreneurial minds to think of them. Obviously, if you manufacture widgets or something else, you’ll want to use this quality tool on your manufacturing process. However, you can also use it to help you improve any process in your business.
How To Use It
Identify any process within your company. Collect data on the makeup of the issue. Chart the data by number of occurrences, ranking the data in highest to lowest number order. You don’t need to chart every issue, just those with the highest frequency. Start working on the issue which is ranked first. Make changes to your process and then collect more data. Repeat the process until the first item is no longer the most frequent problem. Once that happens, start working on the new number one problem. You should be able to make improvements to those issues which cause you the most worries. If you aren’t seeing any improvement, you probably aren’t getting to the root cause of the problem. You may have identified and made changes to symptoms of the problem, without actually fixing the problem itself. If you find that you aren’t making any progress, look at your causes again and try to get to the root cause of the problem.
Give Us Some Real Examples!
Here’s a list of a few problems I’ve run into on previous jobs, maybe you can think of other areas where this type of analysis would be helpful.
- Customer Service Errors
- Shipping Errors
- Overhead Expenses Have Grown
- Delays in Closing Accounting Period
- Meetings Run Long
- Low Volume of Website Orders
Summary
You can apply the Pareto chart to most any problem or process in your business to identify those issues that cause the most problems, cost the most money, or cause you customers to buy elsewhere. It’s limited only by your imagination and ability to collect meaningful data.
P.S. I'm a big fan of Pareto and will be looking at some of his other theories and tool and how they can be used to improve your business over the next few weeks.
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