Being successful in business requires skillful balancing of opposing objectives. Applying quality theories, particularly the Taguchi Loss Function and Pareto Charting Theory, can be a tremendous aid in striking a successful balance.

Quality professionals are driven to deliver optimal product quality and to continually improve internal processes. These activities require resources. The more resources available, the more the business can improve.

The opposing business objective is to limit costly resources to maximize profits. Companies that make good decisions to strike the right balance between superior performance and cost containment win. I’ve found that the application of the Taguchi Loss Function and Pareto Chart theories can help strike that balance.

Most companies tend to guess when identifying their biggest problem, and the application of limited resources tends to be an ad hoc or political process. Tremendous opportunity exists to gain competitive advantage if quality theories are used as a guide to balance continual improvement with cost and profitability. This is an opportunity for quality professionals to make a valuable, high-level contribution to their company.

Applying the Taguchi Loss Function

Fifteen years ago I saw Shin Taguchi lecture on the Taguchi Loss Function. It dramatically shaped my understanding of quality and business. The Taguchi Loss Function Theory first presents an insightful definition of quality. A simplified paraphrasing of this definition is: Quality is the gap between how good something is and how good it could optimally be.

The theory states that the bigger the gap, the bigger the loss to the parties directly and indirectly involved in the transaction. This is a powerful definition from a business perspective because it forces a product or process to be evaluated against its ultimate optimized potential, not against its present state. It also emphasizes that as processes deviate from optimal performance and quality, many people suffer.

While the Taguchi Loss Function Theory emphasizes the need to improve quality and performance to reduce losses, it also takes a realistic approach. The theory recognizes that in many cases, it is impossible to optimize products and processes to a point where they are perfect and there is zero loss. Instead, the theory emphasizes improving quality and performance to a level where loss is minimized, and optimal balance is achieved between continual improvement and the cost to drive that improvement.

While I’m a believer in Philip Crosby’s quality is free theory, we, as quality professionals, must realize that even though we inherently strive for perfection, most optimization projects have diminishing returns. On many projects, the drive to total perfection often will not have a payback. To maintain a good balance between improvement efforts and cost containment to support a profitable business, resources must be withdrawn from improvement projects that have a low payback—even if they are not completely optimized.

Pareto Chart Theory

The Pareto Chart Theory can also be a tremendous aid in optimizing resources. It is based on the 80-20 rule that states that 80% of a company’s inefficiency comes from only the top 20% of problems in the company. Companies that take a quality approach and measure critical processes and issues have the data to make good decisions about which issues will have the limited resources applied to them. Companies that use data to replace emotion, personal opinion or seat of the pants guesses, allocate their limited resources on the issues that give the biggest bang for the buck. Running a business has been called the art of managing limited resources and everyone, including competitors, has limited resources. It is all about applying those resources in the most effective manner.

Using the Pareto Chart Theory takes discipline because it forces managers to realize that 80% of a company’s problems have little impact on the company and may never be solved. The other 20% of the problems are a different story. Smart companies that attack 20% of their problems but eliminate 80% of their inefficiencies, gain a major advantage in the competitive market by keeping cost down, and, at the same time, realizing major improvements. These are the companies that are most likely to win.

If you are not familiar with the Taguchi Loss Function, check it out. I hope that you will find it as insightful and useful as I have.

Send me an e-mail and let me know what good and bad resource allocation decisions you have seen.