Price’s Law: What Does It Mean for Small Business Owners?

Price’s Law predicts that inefficiencies in a business will grow exponentially with its size. In this article, we’ll look specifically at how the law applies to an increase of the workforce, but it can also be applied to other areas such as products and services. 

While the law is not a hard-and-fast rule, it does provide business owners with a different perspective on growth and may help guide their decision-making going forward. 

What is Price’s Law?

Price’s Law is based on statistics. Basically, it states that the majority of a group’s productivity or influence is generated by a minority of workers.  According to Price’s law, about 50% of the group’s output is likely to be generated by the square root of the total number of people in the group. 

How Does Price’s Law Apply to Business?

For example, if a business has nine employees, about 50% of the company’s output would be generated by the square root of nine, which is three people. Now, let’s consider if the same business grew to 100 employees, about 10 workers would create roughly 50% of the output.  This shows that while the total number of employees grew by 10 times, the productive ones only grew by about 3 times.

Understanding how this shakes out might have big ramifications for small businesses. For some company types, growth may require adding a large number of employees. But for others, staying small and efficient may prove more beneficial to the bottom line than trying to grow the size.  

Price’s Law and the 80/20 Rule.

Some people compare Price’s Law to the 80/20 rule, which theorizes that 80% of the work is completed by 20% of the people.  This isn’t a fair comparison because the two premises are very different.  The 80/20 rule is linear and doesn’t reflect exponential growth. 

In our earlier example, a business with nine employees has three highly productive ones, according to Price’s Law. According to the 80/20 Rule, there would only be two highly productive workers.  

When we increase the employees to 100, there are 10 highly productive people according to Price’s law, whereas, there are 20 highly productive workers, according to the 80/20 rule.  

Now, let’s go even further and grow the business to 10,000 employees. In this scenario Price’s Law says only 100 workers are highly productive, while the 80/20 rule says 2,000 workers will be highly productive. That’s a big difference.

How Can Price’s Law Be Used in a Small Business?

Understanding how Price’s Law works can provide valuable insight for a business as they begin to grow.

  • Growth. Price’s Law can be used to understand the relationship between growth and business performance.
  • Key Employees. Price’s Law can help small business owners identify the key employees who are likely to have the greatest impact on the company’s success. It’s useful for decision making around resource allocation, assigning tasks and responsibilities, and setting performance goals.
  • Distribution of Productivity. Price’s Law can help small business owners identify potential bottlenecks and the areas that need improvement to become more efficient. 
  • Benchmark. Price’s Law can provide a benchmark for small businesses. For example, if you have 10 employees and 6 are highly productive, this may indicate that your business is outperforming expectations.
  • Decision-making. By understanding the relationships described by Price’s Law, small business owners can make better decisions about how to use resources and optimize their operations.
  • Marketing. A small business owner might use Price’s Law for its marketing campaigns. For example, let’s say they know it generally takes the creation of four campaigns to get one high-performing campaign that generates the majority of leads.  They will know to plan marketing in four campaign-blocks and allocate resources accordingly.
  • Product development. Price’s Law could also be used in regard to the product development pipeline. If the business owner knows that for every five new products it develops, only one will be a huge hit, they will know how many new products they need in development to hit their goals. 
  • Customer service. If a small business owner uses the law to predict the number of customer interactions that are likely to be unsatisfactory, they can allocate more resources accordingly to try to prevent this outcome.
  • Sales. When a business owner understands how many leads it takes to get to a productive result—a sale, they can allocate their resources accordingly. 

Optimizing Business Operations.

Price’s Law can be a useful tool for small businesses. When owners understand the productivity streams within their organization, they can make informed decisions about how to best use their resources for optimal performance.