ABC inventory Analysis is a simple approach to creating categories for your inventory
For example:
- The category A items will be the inventory which requires very strict control and management with accurate tracking and reporting.
- The category B items in your inventory will be items which do not require very strict control and reporting.
- The C category will include items that are not critical in your inventory management and require very simple control and reporting.
The main point of ABC analysis is the understanding of management that not all items in inventory are of equal importance and they all have different priorities, value and accumulate different cost which is all part of the overall inventory management cost. In simple terms the inventory ABC analysis is categorizing inventories based on how important they are for the organization.
The criteria in ABC classification depends on the organization, the demand of different items and the cost associated with different items.
The top items based on demand and inventory cost will be categorized as A items while items with low demand and low inventory cost will be C items. The classification can use different criteria over time since the demand and cost will change over time for different items and your inventory management practices will change over time as well.
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This concept is very simple to use and in addition it is very useful and productive for management.
Does this mean that category C items are not important and should not be controlled?
Absolutely not, however group C inventory items generally do not require real time tracking, ongoing counting and other management controls because the cost of doing that will be higher than the value achieved.
On the other hand A items will generally require ongoing control, tracking, monitoring, control and cost management in order to better manage the availability of these items and the overall inventory cost.
Example of ABC inventory analysis – the ABC categories can include the following distribution:
- Category A Items: Items which accumulate 60% of the total inventory cost
- Category B Items: Items which accumulate 30% of the total inventory cost
- Category C Items: Items which accumulate 10% of the total inventory cost
There are no strict or fixed rules on the boundaries of the ABC groups and the criteria should be defined based on the company’s inventory system and the overall cost structure.
You can easily analyze your inventory volume and cost with any spreadsheet program by sorting based on demand and the inventory cost and define your threshold values. The logic of ABC analysis is similar to the Pareto principle or the 80/20 rule because it helps managers identify what has the greatest impact on their cost and what should have the highest priority.