Abc inventory classification

ABC inventory classification (ABC method, ABC analisys) - The method of ABC classification analysis is one of the most adopted techniques in the industrial units. Company inventories are classified into different categories based on the value and frequency of replenishment in the given period.

The most important element in this classification is a chosen criterion (you can focus just on one criteria) e.g. volume of material release, the value of sold products. "The first step in the ABC analysis is to create a ranked list of items by cost of goods sold. The top 20% of the items are labeled A-items. The next 30% of the items in the list are labeled B-items and the remaining % are labeled C-items. Of course, these percentages can vary depending upon the needs of the firm"(Chad W. Autry and others, 2013, p. 103).

The ABC analysis is based on the principle of determining the Lorenz curve, "where the x-axis is the percentage of items ant the y-axis is the percentage of total annual usage" (Chad W. Autry and others, 2013, p. 103). During creating ABC analysis it is necessary to order inventory positions from the biggest to the lowest values according to the adopted criterion.

Inventory groups in the ABC classification

ABC Inventory Classification divides inventories for three groups:

• Group A

"Group ‘A ‘ items, consist of only a small percentage of the Total items handled but Has a combined value that constitutes a major large portion of a Total Stock holding of the concern" (D. Chandra Bose 2006, p. 33). They "require tight control and the most accurate record-keeping. These are typically to high-value items, and though few in number, they can make up 70 to 80 % of the total inventory value" (Lea R. Dopson, David K. Hayes, 2010, p. 192).

• Group B

As D. Chadra Bose says, items from group B are less important compared to items from group A (D. Chandra Bose2006, p. 33), which "are those that make up 10 to 15 % of the inventory value and require only routine control and record-keeping" (Lea R. Dopson, David K. Hayes, 2011, p. 192).

• Group C

"In contrast, C items are not as important from an investments point of view and therefore should be ordered and counted less frequently" (Chad W. Autry and others, 2013, p. 103). These "items make up only 5 to 10% of the inventory value. These items require the simplest of inventory control systems (Lea R. Dopson, David K. Hayes, 2010, p. 192).

Phase the ABC inventory classification

The five steps in ABC are (Jae K. Shim, Joel G. Siegel, Allison I. Shim, 2012, p. 409):

1. Segregate inventory into components.
2. Compute annual dolar usage by inventory type.
3. Rank inventory according to dolar usage ranging from high to low (e.g., As in top 30 percent. Bs in next 50 percent, and Cs in last 20 percent).
4. Tag inventory with the appropriate classification so proper attention can be given to it.
5. Record classifications in the inventory records."

Examples of Abc inventory classification

1. * Manufacturing': In the manufacturing industry, ABC inventory classification is used to analyze the items that are used in the production process. Companies use this method to prioritize the items based on their importance and value to the company. For example, a company that manufactures cars might classify their inventory as A items (items that are essential to the production process), B items (items that are important but not essential to the production process) and C items (items that are not essential to the production process).
2. *Retail: In the retail industry, ABC inventory classification is used to analyze the items that are sold to customers. Companies use this method to prioritize the items based on their popularity and demand. For example, a retail clothing store might classify their inventory as A items (items that are in high demand and sell quickly), B items (items that are in moderate demand and sell moderately) and C items (items that are in low demand and sell slowly).
3. * Hospitality: In the hospitality industry, ABC inventory classification is used to analyze the items that are used to provide services to customers. Companies use this method to prioritize the items based on their importance and usage. For example, a hotel might classify their inventory as A items (items that are essential to the customer experience such as bedding, towels and toiletries), B items (items that are important but not essential to the customer experience such as cutlery, crockery and glassware) and C items (items that are not essential to the customer experience such as decorative items).

Advantages of Abc inventory classification

Introduction: ABC inventory classification is a commonly used inventory management technique that classifies inventory items according to their importance to the business.

Advantages of ABC inventory classification:

• ABC inventory classification helps to identify the most important items in an inventory and prioritize them in terms of importance. This helps businesses to invest in the most important items and allocate resources accordingly.
• The ABC inventory classification method helps to reduce the inventory holding costs, as the focus is shifted to the most important items and the inventory of less important items is reduced.
• It also helps to reduce the ordering costs, as the ordering of less important items is minimized and the ordering of more important items is optimized.
• The ABC inventory classification method also helps to ensure that the most important items are always in stock, thus avoiding potential stock-outs.
• This method also helps to reduce the time and efforts required to manage inventory, as the focus is on managing the most important items.
• Finally, the ABC inventory classification method helps to improve customer service, as it ensures that the most important items are always readily available.

Limitations of Abc inventory classification

The ABC inventory classification method is a widely adopted technique in the industrial sector to analyze and classify inventory, but it has its own limitations. The following list outlines some of the main limitations of this method:

• The ABC method can be time-consuming, as it requires a detailed analysis of the product costs and inventory levels;
• The ABC method does not always accommodate changes in inventory levels, as it is based on historical data;
• The ABC method is not suitable for larger inventories, as it can be difficult to accurately categorize each item in the inventory;
• The ABC method does not take into account qualitative factors, such as customer demand or the effect of a product's price on sales;
• The ABC method does not account for the impact of seasonality or other market conditions that can affect inventory levels.

Overall, the ABC method is a useful technique for inventory management, but its limitations must be kept in mind when making decisions.

Other approaches related to Abc inventory classification

ABC inventory classification is one of the most adopted techniques in the industrial, however there are several other approaches that can be used to classify inventory. These include:

• VED Analysis: VED stands for Vital, Essential and Desirable. This technique of inventory classification is used to prioritize the items in inventory. Vital items are those which are required to continue operations of the business and without them, production stops. Essential items are those which are necessary for smooth functioning and without them, operations are hampered. Desirable items are those which are not essential for running the business but are preferred.
• ABC-XYZ Analysis: This method of inventory classification is a combination of the ABC and XYZ techniques. Here, in addition to classifying the items into A, B, and C categories, the items are also classified into X, Y and Z categories. X items are those which have high usage but low cost, Y items are those which have high cost but low usage and Z items are those which have both high cost and high usage.
• FSN Analysis: FSN stands for Fast, Slow and Non-moving. This method of inventory classification is used to differentiate between items that move quickly, items that move slowly and items that are not moving in the inventory. Fast items are those which have high demand and high sales, slow items are those which have low demand and low sales and non-moving items are those which are not selling.

In summary, ABC inventory classification is a popular technique of inventory classification, however there are several other methods including VED Analysis, ABC-XYZ Analysis and FSN Analysis, which can also be used.

Abc inventory classification — recommended articles

ABC method — Economic batch size — Batch cost — ABC analysis — Reorder level — Stock turn — Optimum size of the order — Cost oriented pricing — Independent demand — Below par

References

• Autry Ch. W., Bell J. E., Goldsby T. J., Hill A. V. (2013), Managing the Global Supply Chain (Collection), Pearson Education, Inc., Publishing as FTPress Delivers, Upper Sadle River, New Jersey.
• Bose D. Ch. (2006), Inventory management,Prentice-Hall of India Private Limited, New Delhi.
• Dopson L. R., Hayes D. K. (2011), Food and Beverage cost control, John Wiley & Sons, Inc., New Jersey.
• Siegel J. G., Shim A. I., Shim J. K. (2012),CFO Fundamentals: Your Quick Guide to Internal Controls, John Wiley & Sons, Inc., New Jersey.

Author: Weronika Chudzik