The ABC analysis is a business term used to define an inventory categorization technique often used in materials management. It is also known as Selective Inventory Control. Policies based on ABC analysis: •A ITEMS: very tight control and accurate records
•B ITEMS: less tightly controlled and good records
•C ITEMS: simplest controls possible and minimal records
The ABC analysis provides a mechanism for identifying items that will have a significant impact on overall inventory cost, while also providing a mechanism for identifying different categories of stock that will require different management and controls. The ABC analysis suggests that inventories of an organization are not of equal value. Thus, the inventory is grouped into three categories (A, B, and C) in order of their estimated importance. 'A' items are very important for an organization. Because of the high value of these ‘A’ items, frequent value analysis is required. In addition to that, an organization needs to choose an appropriate order pattern (e.g. ‘Just- in- time’) to avoid excess capacity. 'B' items are important, but of course less important, than ‘A’ items and more important than ‘C’ items. Therefore ‘B’ items are intergroup items. 'C' items are marginally important.
What is the Purpose of ABC Analysis?
ABC Analysis allows inventory/purchasing managers to segregate and manage the overall inventory/suppliers into three major groups. This allows different inventory/supplier management techniques to be applied to different segments of the inventory/suppliers in order to increase revenue and decrease costs. In terms of a Pareto Analysis, it separated the critical few from the trivial many. "A" Category items generally represent approximately 15%-20% of an overall inventory by item, but represent 80% of value of an inventory. By paying attention close attention in real-time to the optimization of these items in inventory, a great positive impact is possible with minimal increase in inventory management costs. "B" Category items represent 30%-35% of inventory items by item type, and about 15% of the value. These items can generally be managed through period inventory and should be managed with a formal inventory system. "C" Category items represent 50% of actual items but only 5% of the inventory value. Most organizations can afford a relatively relaxed inventory process surrounding these items.
How to Do an ABC Analysis?
There are six basic steps
1.Identify the objective for the analysis. Determine success criteria. An ABC analysis can accomplish one of two primary goals: to reduce procurement costs or to increase cash flow by having the right items available for production or direct to customer sales. Collect data on the inventory under analysis.
The most common data, generally available from standard accounting already in place, is annual spend per item. This can be in terms of raw purchase dollars, or weighted cost including all ordering costs and carrying costs, if those can be readily calculated. 2.Sort inventory in decreasing order of impact.
From most to least, rank order each inventory item by cost.
3.Calculate accumulated impact.
Using a spreadsheet tool, calculate the cumulative impact of the list of inventory items by dividing item annual cost by total inventory annual spend, then adding that amount to the cumulative total of percentage spent. 4.Divide inventory into buy classes.
This may not be a precise 80/20 characterization. Take a holistic view and do not concern yourself with an exact 80/20 rule. The goal is to find areas where renegotiating contracts, consolidating vendors, changing strategic sourcing methodology or implementing e procurement may deliver significant savings or ensure in-stock availability of high-volume items. 5.Analyze classes and make appropriate decisions.
The key to this step is follow-up and tracking. Once strategic cost management is in...