What is ABC Analysis in Inventory Control?

It helps businesses save money by focusing on the A items and avoiding unnecessary stocking and managing of unimportant items. It also helps businesses prioritize their inventory items for ordering, reordering, and replenishment. By focusing on the A items, businesses can ensure that they are always stocked and that their stock levels are not too low. ABC analysis is an essential tool for optimizing inventory management, helping businesses categorize their stock into three classes based on value and turnover rate.

By prioritizing these items, companies can ensure that they are always in stock, reducing the risk of stockouts and minimizing lost sales. For example, an ABC analysis example might show that high-end electronics make up a significant portion of revenue, justifying closer monitoring and control. While they are not as high-value as Category A items, they still require regular inventory checks and balanced stock levels to avoid disruptions in the supply chain. In inventory management, this translates to the idea that approximately 80% of a company’s total inventory value is often concentrated in just 20% of its items. These high-value items fall into Category A, while the remaining 80% of the items, which contribute less to the overall value, are placed into Categories B and C. Often, it’s a select group of items that contribute most to the total—an example of the Pareto Principle.

• This done by analysing the inventory that is in excess stock and those that are obsolete by making way for items that are readily sold.
• ABC analysis is a method of categorization of inventory based on significance and importance of the items in the production process which determines the level of inventory control.
• By understanding and implementing ABC analysis, businesses can better manage inventory costs, improve cash flow, and enhance customer satisfaction.
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Step 4: Assign them to A, B, or C categories

• With this tool, you can quickly analyze inventory data, determine which items should be prioritized, and optimize purchasing decisions based on real usage patterns.
• Discover the principles and benefits of a quality management process while also learning how to improve it with audits, metrics, and CMMS solutions.
• You could use more reliable replenishment strategies, like Just-in-Time inventory management (JIT).
• It involves classifying stock-keeping units according to a certain criterion, most often by their importance or consumption value, sometimes also by their utilization frequency.
• The table below displays the percentage of total sales revenue and percentage of total inventory value (% stock) for each product.

This cross-departmental approach helps in aligning inventory management with broader business objectives, improving overall supply chain efficiency. EOQ, on the other hand, is a formula-based approach that calculates the ideal order quantity for each item to balance ordering costs and holding costs. It helps determine how much stock to order at a time, reducing excess inventory while avoiding frequent reordering. ABC Inventory Analysis is built on the Pareto Principle, which states that 80% of outcomes result from 20% of inputs.

Best practices for implementing ABC analysis

This approach ensures that funds are concentrated on maintaining the availability and quality of the most critical inventory items. Understanding how it compares to other methods can help businesses choose the most appropriate strategy for their specific needs. For example, if the data on the annual consumption value of items is not current, the ABC type categorization might be flawed, leading to poor inventory decisions. Maintaining data accuracy is a continuous challenge that can limit the utility of ABC Analysis. One of the primary challenges of ABC Analysis of inventory is the inherent subjectivity in categorizing items into A, B, and C classes. The criteria for classification, such as annual consumption value, may vary from one organization to another, leading to inconsistencies.

They account for a small percentage of total stock but hold the highest financial value and operational impact. Without a clear classification system, companies risk overstocking low-priority items while running short on critical ones—leading to wasted capital and operational disruptions. But running out of essential parts can cripple and disrupt operations workflows.

Define Inventory Control Policies for Each Category

However, EOQ is not always the best fit, especially in situations where demand is highly variable or where critical parts require emergency stocking. A low-cost, frequently used item (C-item) might become an A-item if it has a long lead time or is difficult to source. Instead of treating all purchases equally, companies can establish stronger relationships with key suppliers for A-items, securing favorable pricing, priority deliveries, and reliability guarantees. They don’t have the same impact as A items, but they’re still valuable enough to warrant some level of control. This includes parts that are expensive but essential for production, like specialized bearings, motors, or hydraulic components. ABC Inventory Management divides stock into three distinct categories—A, B, and C—based on value and consumption patterns.

This means that the preparation time needed is manageable and that the analysis can be easily conducted at any time. Another one of this method’s strengths is that it can be applied to a wide variety of business areas and can thus provide valuable information for future strategic business decisions. This enables the company to prioritize procurement efforts, ensuring that essential materials are always available without overstocking less critical items. The table below displays the percentage of total sales revenue and percentage of total inventory value (% stock) for each product. Implement Radio Frequency Identification (RFID) to automate the tracking of inventory items, particularly for high-value Class A items. RFID technology provides real-time data on item movements and stock levels, facilitating more dynamic and responsive ABC categorization.

Applying ABC analysis in manufacturing and inventory management

It guides investors and businesses through the labyrinth of financial decision-making. Category C items might have more relaxed SLAs, reflecting their lower importance and reducing pressure on supply chain resources. For instance, some low-value items may be critical for customer satisfaction or production continuity, but they might be placed in Category C and receive less attention. Since high-value items are clearly identified, businesses can prioritize these during audits, ensuring accurate counts and valuations.

Critical raw materials essential for manufacturing products are classified as ‘A’ items, whereas less expensive or low-usage materials are categorized as ‘B’ or ‘C’. On the other hand, items with less movement frequency are categorized as ‘B’ or ‘C’ based on their importance level. This method makes warehouse inventory management more efficient, smooths operations, and reduces errors.

In this article you’ll learn how to use this method to prioritize your inventory, and how this benefits your overall operation. ABC analysis is therefore an important tool for assessing the current situation in a company and helps those in charge adopt appropriate measures to increase revenue. After categorization, reviewing abc analysis outcomes and making necessary adjustments regularly is crucial.

Keep Inventory Data Updated

Hence, she decided to implement the ABC analysis in her business model to streamline the inventory. Deskera ERP streamlines procurement processes by integrating ABC Analysis with purchasing workflows. With Deskera ERP, businesses have access to real-time data insights, allowing for more informed decision-making. Deskera ERP automates the process of classifying inventory into A, B, and C categories.

From optimizing safety stock levels to more efficiently addressing out-of-stock and deadstock challenges, automated ABC analysis offers a smart solution. While the traditional manual method of performing ABC analysis has benefits, it can be time-consuming and prone to errors. Once you have ranked items according to their annual sales value, calculate cumulative metrics to better understand their collective impact on sales revenue and inventory value. This metric offers insights into the relative value of products within your inventory.

Proper inventory control not only minimizes costs but also maximizes efficiency, enabling businesses to meet customer demand without overstocking or stockouts. The ABC analysis is widely used in supply chain management and stock checking and inventory system and is implemented as a cycle counting system. It is most important for companies that seek to bring down their working capital and carrying costs. This done by analysing the inventory that is in excess stock and those that are obsolete by making way for items that are readily sold. This helps avoid keeping the working capital available for use rather than keeping it tied up in unhealthy inventory. In an inventory management system we can categorize products into ABC classification depending upon their annual sale or percentage sale of the items.