The 80/20 Principle: The Secret of Achieving More With Less (19 page)

Finally,
when something is working well, double and redouble your bets.
You may not know why it’s working so well, but push as hard as you can while the forces of the universe are bending your way. Venture capitalists know this. Most of the investments in their portfolio fail to meet their expectations, but they are redeemed by a few superstar investments that succeed beyond everyone’s wildest dreams. When a business keeps performing below its budgets, you may be sure you have a dog. When a business consistently outperforms expectations, there is at least a good chance that it can be multiplied by ten or a hundred times. In these circumstances, most people settle for modest growth. Those who seize the day become seriously rich.

INVENTORY MANAGEMENT

We saw in Chapter 5 that simplicity requires few products. Managing stock is another key discipline flowing from the 80/20 Principle. Good stock keeping, following the 80/20 Principle, is vital to profits and cash; it is also an excellent check on whether a business is pursuing simplicity or complexity.

Nearly all businesses have far too much stock, partly because they have too many products and partly because they have too many variants of each product. Stock is measured in stock-keeping units (SKUs), with one unit for each variant.

Stock almost invariably follows some sort of 80/20 distribution: that is, around 80 percent of stock only accounts for 20 percent of volume or revenues. This means that slow-moving stock is very expensive and cash guzzling to keep and probably involves product that is inherently unprofitable in any case.

I can cite two recent examples of stock review. In one of them:

Upon analyzing the data, Pareto’s 80/20 rule held close to true: 20 percent of the SKUs picked represented 75 percent of the daily volume. These picks were primarily full cases and typically required multiple cases per SKU. The remaining 80 percent of the SKUs represented only 25 percent of the daily volume. These picks amounted to only a few pieces per SKU per day.
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The 20 percent was very profitable and the 80 percent unprofitable. Another case comes from a warehouse introducing an electronic system; before doing so it decided to see if it had the right stock in the first place:

A preliminary study showed that the 80/20 rule didn’t fit. Rather than 20 percent of the SKUs accounting for 80 percent of warehouse activity, only 0.5 percent (just 144 SKUs) account for 70 percent of the activity.
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Again, while I know nothing at all about the product, it is a safe bet that the top 0.5 percent of SKUs by volume are a great deal more profitable than the other 99.5 percent.

An example which is very important to me, because correcting it made me a lot of money, is that of Filofax. My partner at the time, Robin Field, takes up the story.

While Filofax design and features had remained static [in the late 1980s], the product line width had expanded beyond all control. The same basic binder was available in a bewildering variety of sizes and a huge assortment of—mainly exotic—skins. Name a creature and Filofax would have ordered several thousand binders made of its hide and proudly placed them in its catalogue and in stock. I don’t know what a Karung is, but I inherited an awful lot of its skin in 1990.

Similarly, name a subject: bridge, chess, photography, bird watching, windsurfing, and Filofax would have commissioned several specialist inserts, had tens of thousands of them printed and put them in inventory…

The result was, of course, not only a huge overhang of worthless stock, not only an administrative burden of vast complexity, but total confusion among our retailers.
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Although good stock management is vital, there are only four key points to it. The most strategic point—cut down radically on your unprofitable product—has already been covered in Chapter 3.

For any given number of products, you should cut down on the number of variants, starting with the slowest movers. Simply cut them out of the product range, as Filofax did. Do not listen to anyone who tells you that the slow movers are really needed. If this was so, they’d move much faster.

Try to export the problem and cost of inventory management to other parts of the value-added chain—to your suppliers or to your customers. The ideal solution is for your stock never to come near your facilities. With modern information technology this is increasingly possible and can raise service standards while simultaneously cutting costs.

Finally, if you must hold a certain amount of stock, there are many tactical ways to use the 80/20 Principle to cut costs and speed up picking and packing:

The 80/20 rule is reliable in many applications, meaning that about 80 percent of the activity involves only about 20 percent of the inventory. The areas divided by size and weight…can now also be divided by part number into areas of high or low activity. In general, fast-moving items should be located as close to the shoulder-hip zone as possible, to minimize operator movement and reduce fatigue.
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Inventory management in the future

Despite its historical overtones of the brown coat and the dusty store, inventory management is a fast-moving and exciting area. “Virtual inventory,” with on-line order processing, is becoming widespread, lowering costs but also improving service to distributors and customers. Innovators such as Baxter International’s hospital supply business are having great success with “customer-intimate” inventory systems. In all cases, progress is being driven by focus: focus on the most important customers, focus on a simple product line, simply tracked and simply delivered.

The 80/20 Principle is also alive and well in another increasingly important component of corporate value creation: project management.

PROJECT MANAGEMENT

Management structures are being exposed as inadequate and worse. They usually destroy more value than they add. One way of destroying or circumventing structures, so as to create value for valuable customers, is the project. Many of the most energetic people in business, from chief executives down, do not really have a job: rather, they pursue a number of projects.

Project management is an odd task. On the one hand, a project involves a team: it is a cooperative and not a hierarchical arrangement. But on the other hand, the team members usually do not know fully what to do, because the project requires innovation and ad hoc arrangements. The art of the project manager is to focus all team members on the few things that really matter.

Simplify the objective

First, simplify the task. A project is not a project: almost invariably, a project is several projects. There may be a central theme in the project and a series of satellite concerns. Alternatively, there may be three or four themes wrapped up in the same project. Think of any project with which you are familiar and you will see the point.

Projects obey the law of organizational complexity. The greater the number of a project’s aims, the effort to accomplish the project satisfactorily increases, not in proportion, but geometrically.

Eighty percent of the value of any project will come from 20 percent of its activities, and the other 80 percent will arise because of needless complexity. Therefore do not start your project until you have stripped it down to one simple aim. Jettison the baggage.

Impose an impossible time scale

This will ensure that the project team does only the really high-value tasks:

Faced with an impossible time scale, [project members] will identify and implement the 20 percent of the requirement that delivers 80 percent of the benefit. Again, it is the inclusion of the “nice to have” features that turn potentially sound projects into looming catastrophes.
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Impose stretch targets. Desperate situations inspire creative solutions. Ask for a prototype in four weeks. Demand a live pilot in three months. This will force the development team to apply the 80/20 rule and really make it work. Take calculated risks.
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Plan before you act

The shorter the time allowed for a project, the greater proportion of time that should be allowed for its detailed planning and thinking through. When I was a partner at management consultants Bain & Company, we proved conclusively that the best-managed projects we undertook—those that had the highest client and consultant satisfaction, the least wasted time, and the highest margins—were those where there was the greatest ratio of planning time to execution time.

In the planning phase, write down all the critical issues that you are trying to resolve. (If there are more than seven of these, bump off the least important.) Construct hypotheses on what the answers are, even if these are pure guesswork (but take your best guesses). Work out what information needs to be gathered or processes need to be completed to resolve whether you are right or not with your guesses. Decide who is to do what and when. Replan after short intervals, based on your new knowledge and any divergences from your previous guesses.

Design before you implement

Particularly if the project involves designing a product or service, ensure you have the best possible answer in the design phase before you start implementation. Another 80/20 rule says that 20 percent of the problems with any design project cause 80 percent of the costs or overruns; and that 80 percent of these critical problems arise in the design phase and are hugely expensive to correct later, requiring massive rework and in some cases retooling.

NEGOTIATION

Negotiation completes my Top 10 applications of the 80/20 Principle in business. Not surprisingly, negotiation has been much studied. The 80/20 Principle adds just two points, but they can be crucial.

Few points in a negotiation really matter

Twenty percent or fewer of the points at issue will comprise over 80 percent of the value of the disputed territory. You may think this will be obvious to both sides, but people like to win points, even completely unimportant ones. Similarly, they respond to concessions, even trivial ones.

Therefore, build up a long list of spurious concerns and requirements early in a negotiation, making them seem as important to you as possible. These points must, however, be inherently unreasonable, or at least incapable of concession by the other party without real hurt (otherwise they will gain credit for being flexible and conceding the points). Then, in the closing stages of the negotiation, you can concede the points that are unimportant to you in exchange for more than a fair share of the really important points.

For instance, imagine that you are negotiating with a sole supplier for the prices on 100 parts of a key product you make. Eighty percent of the cost of any product rests in 20 percent of the parts. You should only really be concerned about the prices of these 20 parts. But if you concede the asking price on the other 80 parts too early in the negotiation, you lose valuable bargaining chips. You should therefore construct reasons for the prices on some of the unimportant 80 parts being important to you, perhaps by exaggerating the number of units you are likely to consume.

Don’t peak too early

Second, it has often been observed that most negotiations go through a phony war and only get going in earnest when the deadline looms:

It also seems true that on account of the incredible pressure that time can put on a negotiation, 80 percent of the concessions…will occur in the last 20 percent of the time available. If demands are presented early on, neither side may be willing to yield, and the entire transaction can fall apart. But if additional demands or problems surface in the final 20 percent of the time available for the negotiation, both sides will be more flexible.
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Impatient people don’t make good negotiators.

How to secure a pay raise

Orten Skinner gives an intriguing example of how to exploit the 80/20 Principle:

80 percent of concessions will be made in the last 20 percent of negotiating time. If your appointment to ask for a long-overdue raise is scheduled for 9:00 a.m. and you know your supervisor has another appointment at 10:00, expect the critical moments to occur around 9:50. Pace yourself accordingly. Don’t make your request too early to permit a gracious compromise on your supervisor’s part.
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BEYOND THE TOP 10

By now you will have realized that the 80/20 Principle cuts across whatever boxes we create. The insights derive from the living reality behind people, behind business, and behind the world in which business operates. The 80/20 Principle is so pervasive because it is a reflection of deeper forces ruling our existence. It is time to draw these strands together.