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Definition: ABC Inventory Control
A.B.C. (Always Better Control) analysis is a popular method for inventory optimization in supply chain. Under this method, the inventory is classified in three categories according to their monetary value and accordingly, the manager designs the inventory management policies for the store.
Products are classified under three groups: ‘A’ having the most valuable items, ‘B’ the intermediate ones and ‘C’ the least in terms of value. This objective of the method is to draw more attention of the inventory manager on the Group A items and less towards Group C items.
Let us now introduce a term ‘Annual Consumption Value’ which is the product of annual demand of an item and its cost. It has been observed that the annual consumption value is highest for the products classified under Group A and least for the Group C items.
Group A: Products contributes around 70-80% to the annual consumption value of the company and accounts for only 10-20% of the inventory. Inventory manager performs the regular check on the stock and ensures that A items are not stock outs. This requires frequent orders for ‘A’ group items, a secured storage and precise sales forecast from the inventory manager.
Group B: These products cover 15-20% of the annual consumption value and accounts for 20-30% of the inventory. A reasonable amount of care has to be taken for this segment.
Group C: This segment has maximum share of 60-70% in terms of inventory but contributes very little 15-20% in the consumption value. Inventory manager generally doesn’t pay much attention towards these products and performs a routine check up to ensure the availability as it poses the risk of low value and higher inventory costs.
Example: Refer to the Figure 2. All the items are listed in the below table along with their unit cost and annual demand. The annual consumption value is calculated for each item and its percentage in terms of total annual consumption of the store is evaluated. Based on this percentage, the items are classified as Group A, B and C (Figure 3).
Performing ABC analysis using IT applications:
Major ERP systems like SAP, Oracle, Microsoft comes with built in function to perform ABC analysis. Also, it allows the user to redefine the weights allocated to each group and obtain the results.
Advantages of using ABC analysis
• Better control on expensive items on which large investment is required
• Cycle counting, which is an indicator of stock replenishment can be effectively used after completing the grouping
• Ensures reduction in storage expenses
Disadvantage of the technique
• Method can’t be employed where products can’t be standardised
• Classification is done purely on the basis of monetary value and other factors are ignored
• A good system to codify the products should be used in order to perform the ABC analysis