This Tutorial Explains What is Pareto Analysis With Examples, Benefits & Limitations. Also learn What is a Pareto Chart, how to create it in Excel:
Pareto Analysis is a powerful quality and decision-making tool. If implemented properly, it will help in identifying the major pitfalls in any process flow which in turn improves the quality of the product/business. It is an excellent visualization tool to visualize the issues quickly.
Let’s see a real-life example where Pareto Analysis is applied.
Learning and Development [L&D] Manager in a company noticed that number of employees getting enrolled in skill up-gradation training was considerably reducing. To understand the reason, he did a feedback survey with the possible dissatisfaction factors and plotted a Pareto Chart.
And there it is!! all the information that he wanted is in front of him and now he knows how to improve the training sessions.
Let’s learn in detail about Pareto Analysis and Pareto Chart or Pareto Diagrams.
What You Will Learn:
What Is Pareto Analysis?
Pareto Analysis is a technique used for decision making based on the Pareto Principle. Pareto Principle is based on 80/20 rule which says “80% of impacts are due to 20% of causes”. It emphasizes that a major number of issues are created by a relatively smaller number of underlying causes.
Pareto Analysis is one of the 7 basic quality process tools and is applied across many industries by Managers to improve the business and quality.
When it is applied to the software industry, the Pareto Principle can be quoted as “80% of defects are contributed by 20% of the code”. 80/20 are just a figure, it can vary as 70/30 or 95/5. Also, it’s not necessary to add up to 100%, for example, 20% of products in a company can account for 120% profits.
History Of Pareto Analysis
Pareto Analysis was named after Vilfredo Pareto, an Italian Economist. He observed in the late 1800s that in Italy, 80% of the land was owned by 20% of people. Hence, it is also called the 80/20 rule.
Pareto Analysis was later updated by a quality evangelist Joseph Juran who observed that the logarithmic mathematical model which Pareto had developed is not only applicable to Economics but also in Quality Management and many other fields. Hence, he concluded that the 80/20 rule is universal and named it a Pareto Principle.
Pareto Principle is also called the law of “The Vital Few and Trivial Many”. It is a prioritization tool that helps to find “VITAL FEW” and “TRIVIAL MANY” causes. Vital Few means many problems come from a relatively small number of causes. Trivial Many refer to a large number of remaining causes result in very few problems.
Pareto Analysis Examples
Pareto Analysis can be applied literally in any scenario we see around in our day-to-day life as well.
Here are some examples:
- 20% of employees do 80% of work.
- 20% of drivers cause 80% of accidents.
- 20% of the time spent in a day leads to 80% of work.
- 20% of clothes in the wardrobe are worn 80% times.
- 20% of things in the warehouse occupy 80% of storage space.
- 20% of employees are responsible for 80% of sick leaves.
- 20% of household items consume 80% of electricity.
- 20% of the book will have 80% of the content you are looking for.
- 20% of all people in the world receive 80% of all income.
- 20% of tools in the toolbox are used for 80% of tasks.
- 80% of crimes are committed by 20% of criminals.
- 80% of revenue is from 20% of company products.
- 80% of the complaints are from 20% of clients.
- 80% of cooking at home is from 20% of total utensils.
- 80% of loan repayment pending are from 20% defaulters.
- 80% of travel is to 20% of the places.
- 80% of customers use only 20% of the software App/website/smartphone features.
- 80% of the contribution comes from 20% of potential contributions available.
- 80% of the restaurant sale is from 20% of its menu.
And such examples are endless. If you observe the nature and things happening around, you can cite many examples like this. It’s applied in almost every field be it business, sales, marketing, quality control, sports, etc.
Benefits & Limitations
The benefits are as follows:
- It helps to identify top root causes.
- Helps to prioritize the top issue for a problem and try to eliminate it first.
- Gives an idea of the cumulative impact of issues.
- Corrective and Preventive action can be better planned.
- Gives a focussed, simple, and clear way to find vital few causes.
- Helps to improve problem-solving and decision-making skills.
- Improves the effectiveness of quality management.
- Useful in every form of leadership decision.
- Helps in time management, be at work, or personal.
- Helps in general performance management.
- Helps in planning, analysis, and troubleshooting as well.
- Helps in problem-solving and decision making.
- Helps in change management.
- Helps in time management.
The limitations are as follows:
- Pareto Analysis cannot find root causes by itself. It needs to be used along with other Root Causes Analysis tools to derive the root causes.
- It doesn’t show the severity of the problem.
- It focuses on past data where damage has already happened. Sometimes it might not be relevant for future scenarios.
- It cannot be applied to all cases.
What Is A Pareto Chart?
A Pareto Chart is a statistical chart which orders the causes or problem in the descending order of their frequency and their cumulative impact. Histogram chart is used inside the Pareto chart to rank the causes. This chart is also known as Pareto Diagram.
Below is an example of a Pareto Chart which was published in Disease Management Journal which depicts what’s are the top diagnostic categories for hospital admissions.
Pareto Chart has a bar chart and a line graph co-existing together. In Pareto Chart, there is 1 x-axis and 2 y-axes. The left x-axis is the number of times[frequency] a cause category has occurred. The right y-axis is the cumulative percentage of causes. Cause with the highest frequency is the first bar.
Bar Chart represents causes in descending order. Line Graph presents a cumulative percentage in ascending order.
When To Use Pareto Chart?
These are used in cases like,
- When there is a lot of data and needs to be organized.
- When you want to communicate the top issues to stakeholders.
- When there is a need to prioritize tasks.
- When the relative importance of data needs to be analyzed.
Steps To Create a Pareto Chart
Below flowchart summarises the steps to create the Pareto Chart.
#1) Select Data
List down the data that needs to be compared. Data can be a list of issues, items, or cause categories.
To better understand how Pareto Analysis is applied, let’s take an example where a Software Development Manager wants to analyze the top reasons which contribute to defect at the Coding Phase. To get the data, Manager will get the list of coding issues which contributed to defect from defect management tool.
#2) Measure Data
Data can be measured in terms of:
- Frequency (for example, no. of times problem has occurred) OR
- Duration (how long it takes) OR
- Cost (how many resources it utilizes)
In our scenario, the defect management tool is listed with a dropdown for the reviewer to select the reason for the defect. So, we will take the no. of times [frequency] a specific coding issue has occurred over a period.
#3) Select timeframe
The next step is to choose the duration during which data has to be analyzed say a month, a quarter, or a year. In our scenario, let’s take a span of defects reported in the last 4 software releases to analyze where the team is going wrong.
#4) Calculate Percentage
Once the data is collected, put it in an Excel Sheet as shown in the below image.
Then, create a Percentage column. Calculate the percentage of each Issue type by dividing frequency with TOTAL.
Change the Percentage columns using the Percent Style button (Home tab -> Number group) to display the resulting decimal fractions as percentages.
Final percentage will be displayed as below:
#5) Sort in ascending order
Sort the percentage from largest to smallest as explained below:
Select the first 2 columns and click on Data->Sort and select Sort by “Frequency” column and Order by “Largest to Smallest”.
Sorted categories are displayed as below:
#6) Calculate the cumulative percentage
The cumulative percentage is calculated by adding the percentage to the previous root cause category percentage. The last cumulative percent will be always 100%.
Start the first column with the value the same as the Percentage column and keep adding the percentage above for the rest of the rows.
After filling the Cumulative percentage, Excel Sheet will look like below:
#7) Draw Bar Graph
Create a Bar graph with x-axis denoting the different causes for coding errors, left y-axis denoting the no. of times coding issues have happened, and percentages on the right y-axis.
Click on the table and Insert -> Charts -> 2D column.
Right-click and select data
Unselect Percentage and TOTAL in Select Data Source.
The chart will look like below:
#8) Draw Line Graph
Draw the line graph by joining the cumulative percentages.
Select cumulative percentage and right-click on the chart and select “Change Series Chart Type”
Modify Cumulative Percentage as a Line graph and select “Secondary Axis”.
Here is the final Pareto Chart:
#9) Analyse the Pareto Diagram
Imagine a line from 80% on the y-axis to the line graph and then drop to the x-axis. This line will separate the “trivial many” from “vital few”. Based on the observations from the Pareto Chart, Pareto Principle or 80/20 rule is applied and improvement actions will be planned.
In our scenario, the first 2 causes contribute to 70% of defects.
Inbuilt Tools In Microsoft Excel To Create Pareto Chart
We have explained the process of creating a Pareto chart in Microsoft Excel to understand how its plot. But ideally, you don’t need to do all calculations by yourself because Microsoft office provides an inbuilt option to create a Pareto Chart. We just have to source the data to be fed to the Excel Sheet and plot the Pareto Chart. It’s that simple!!
Pareto Chart can be created easily using the Microsoft Word/Excel/PowerPoint.
Let’s take another example of a list of continents ranked by the current population.
Collect all the required data in Excel Sheet as shown in the above image. Now, we will draw the Pareto Chart for population per continent. For that, first select the rows from B1, C1 to B9, C9.
Then click on “Insert” and then “Insert Statistic Chart”.
Then click on “Pareto” under Histogram.
As you can see, the chart is small and the font is not visible. Now, drag the chart below the data table and right-click on the x-axis text area, select font, and update as required.
Update the font as required.
After updating the font, expand the picture to see the fonts clearly.
Pareto Chart is ready!! Now it’s time to analyze.
2 continents Asia and Africa (out of 7 continents) contribute to 83% of the world population and rest 5 continents (Europe, North America, South America, Australia, Antarctica) contribute to 17% of the rest of the world population.
Frequently Asked Questions
Q #1) Why do you use Pareto Chart?
Answer: Pareto Chart is a decision-making tool used by improvement teams to derive the top causes contributing to a problem. In quality management, it can be defined as root causes contributing to the maximum number of defects.
Q #2) What do Pareto Chart tell you?
Answer: Pareto Chart is a visual graph that has a bar graph and line graph. It will divide the chart into a vital few and trivial many with few causes on the left side and more causes in the right side of the chart.
Q #3) What are the benefits of Pareto Analysis?
Answer: It is useful to segregate defects to major and minor issues. It helps to focus on problems and gives significant improvement.
Q #4) How is Pareto calculated?
Answer: Follow the steps below:
Step 1: Identify the data and its total count.
Step 2: Reorder from largest to smallest.
Step 3: Determine the cumulative percentage of all.
Step 4: Draw horizontal axis with causes, vertical axis on left with occurrences, and the vertical axis on left with cumulative percentage.
Step 5: Draw the bar graph and line graph depending on data.
Step 6: Analyze the Pareto Chart.
Q #5) What is the 80/20 rule in Pareto Chart?
Answer: It’s based on the famous Pareto Principle which states that 80% of output is from 20% input.
Q #6) Is the Pareto principle true?
Answer: Pareto Principle is based on the universal observation that there is a disproportion between the inputs and outputs. The percentage of input/output ratio is not strictly 80/20 percentage.
Q #7) What is the other name of the Pareto Principle?
Answer: It is also called “80/20 rule” or “law of vital few and trivial many”.
Q #8) What are the common limitations of the Pareto Principle?
Answer: Pareto Principle usually measures the occurrence of defects rather than the severity of defects. If a severe defect falls in the 20% category, then it would be missed.
Effective implementation of Pareto Analysis requires the right source of data. The tutorial covers the concept of Pareto Analysis, its uses, limitations, and when/how this technique needs to be used.
If done appropriately, Pareto Analysis will help to break a big problem into smaller pieces and help to focus on where to put efforts and hence guide in better usage of resources.