Is Your Strategy Wrong?
By: Hubert Crowell
If you are not using the 80/20 Principle to control your strategy, your strategy is more than likely wrong. You may not have an accurate picture of where you make, and lose, the most money.
Where are you making the most money?
Conduct an 80/20 Analysis of profits by different categories of your business:
Look at the sales over a given period and then determine the profit of each after allocating all of the cost for each group/type. Be careful when allocating the cost as each product will be different and have more or less activity from sales, manufacturing, etc.
When correctly allocating the cost to each product, you will usually find that some are making most of the profit and some are accounting for most of the losses, with the rest falling somewhere in between.
After products, go on to look at each customer, some will be willing to pay more but require a higher cost to service. Follow the same analysis for the remaining group/types that you have identified.
Now with all the information at hand divide your business up into segments and what products they use and determine the return on sales for each. Find the closest top 20% and the closest bottom 20%.
What actions should you take on this Analysis?
Before you take any action, know what the results will be. Will reducing the resources for one segment have any affect on another segment that is showing a profit? Discuss the changes with all departments to be sure that everyone is on board and that you have not overlooked anything.
If a segment is losing money but improving you may want to give it time before shifting resources to a more profitable segment.
List each segment and assign a priority, describe the characteristic and the proposed actions for each segment.
Your goal should be to start with an 80/20 profit analysis and determine a segment strategy. Continue to refine your results and redirect your efforts to the areas where you can gain the most benefit. There will always be an 80/20 relationship between the group/types in your business, and there will always be room for improvement. The work will never be complete.
Assignment: Read Chapter 4 of The 80/20 Principle, by Richard Koch, ISBN 0-385-49174-3
Save this URL for future reference in your favorites folder.
Optional Exam: Give an example from your business where the 80/20 Analysis might result in strategy for improvement in profits.
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