A Pareto chart is kind of a bar graph that is used universally as an analysis tool. When you first think about it, it appears something very complicated, but here we are going to simplify the concept of Pareto Chart analysis.
Pareto Chart or 80/20 Rule
Pareto chart came into origin in 1897, when Italian economist Wilfredo Pareto created a formula that represented the uneven distribution of wealth. In one of his first theories, Pareto represented that 20% of the population in Italy occupied 80% of the land. In mathematics, this rule is known as power-law distribution or Pareto distribution. Later on, a management consultant Joseph M. Juran developed the same concept in context to quality control and development and named it after the Italian economist Pareto.
The Pareto principle is also known as the 80/20 rule. This means you just have to do 20% of the work, but the yield it provides is equivalent to 100% of the job. To comprehend the phenomenon, take an example of a restaurant, where 80% of the problems are generated by 20% of the factors that are used in running the business. All you have to do is track that 20% of issues and the ROI generated will have a significant boost. This is where the Pareto principle comes to use. All you have to do is track 20% of the problem.
It also gave an insight into the world income inequality, which stated that 20% of the world population was generating 82.7% of its income. Further, there are two ways to apply the Pareto analysis. Take a look:
Counts Pareto: The Counts Pareto analysis is utilized when you have to recognize the frequency of occurrence. For example, if you have two key bugs, the Counts Pareto will show the occurrence of these two bugs, which is supposedly 50 occurrences of 1 problem and 10 occurrences of another. As you get track of frequency, you can priorities the debugging process. For creating a Count Pareto diagram, you will require to divide the data into categories and must have an approximate number of occurrences.
Cost Pareto: As the name suggests the Cost Pareto is used to recognize a particular category of problem, which is bearing most of the investment. The analysis will recognize the impact of each category. To understand the Cost Pareto, take an example of the Count Problem, where one problem has 50 occurrences and another has 10.
Now if we look at the cost side, suppose the problem that occurred 50 times cost only 0.50 each time and the problem that occurred 10 times cost $5 each time. Now according to the cost Pareto, your priority should be towards the second category, which is causing you a loss.
Steps to create a Pareto Chart
- Divide the data into certain categories.
- Use measurements like quantity cost time and frequency for measuring these categories.
- Determine the period of which you are going to make a complete analysis for example one week, months, or a year.
- Now collect the data and record the complete input every time.
- Calculate the frequency
- Subtotal the measurement of each category.
- Develop the bar for each category, putting the tallest one at the left and succeed it with the smaller ones.
- Calculate the percentage of each category by dividing the sum of one category by a total sum of all categories.
- Draw the cumulative percentage line.
- The horizontal axis characterizes the types of activities like issues, problems, and causes of problems. The vertical axis shows the regularities of those events.
How Business can Utilize Pareto Chart for Problem Analysis?
According to Pareto Charts, it was found that many businesses were witnessing a common scenario, where 80% of their profits were coming from only 20% of products and services. So, right now businesses are utilizing the Pareto Chart to increase their profitability.
Another finding by the Pareto analysis was that 80% of the revenue was being generated by 20% of company employees. Companies are using this principle to recognize the super productive workforce. It is also helping them to create training programs that will boost the efficiency of the rest of 80% of employees.
Not just these, the Pareto analysis is used in almost every field. Businesses especially use it for identifying the existing problem and prioritizing them for debugging. Here are some of the scenarios where Pareto analysis can be best used.
- The chart can be applied to a situation where there are many problems, but the focus has to be on other significant ones.
- When you have to recognize the frequency of the problem.
However, make sure you apply the Pareto diagram only when the data can be arranged into different categories and each of the categories has an important rank.
To best utilize the Pareto analysis diagram, how to make clear subdivisions, repeat analysis, and perspective analysis.
- The subdivisions are required when you have to analyze a very specific portion, but the data is recorded at a General level. For example, if the analysis is for an automobile company and the products are categorized only on the name of the prime model. You should take the division further based on the color, year of making, features, and fuel.
- The multi-perspective analysis is deployed when the data is subdivided depending on multiple factors. For example, when you want to check the sales of the vehicle, you might want to divide it based on region, showroom location, sales team, etc.
- Repeat analysis comes to use when the data is not static and keeps changing over time. Suppose you collect the data weekly, repeat Pareto analysis will help you monitor the development on a long go.
Pareto Charts is a simple yet powerful tool that can ascertain wastage in any process. You can also call it decision-making techniques that are applied to a limited number of tasks to provide a significant output. This chart is being used in every industry and it has been effectively recognizing the critical errors in business models. If possible construct two charts, use one for frequency and other for attributes like cost and time. The process will enable you to target both the frequency and the impact of the problem.