Inventory management - ABC analysis as an inventory management

Content

Definition

The concept of ABC analysis

Inventory Management

Maintaining inventory though counting, placing orders, receiving stock, and so on takes personnel time and costs money. When there are limits on the resources, the logical move is to try to use the available resources to control inventory in the most efficient way; to achieve this, an ABC analysis is one way to control the inventory effectively.

Definition

Analysis of a range of items which have different levels of significance and should be handled or controlled differently. It is a form of Pareto analysis in which the items (such as activities, customers, documents, inventory items, sales territories) are grouped into three categories (A, B, and C) in order of their estimated importance

'A' items are very important

The concept of ABC analysis

Over 100 years ago, Vilfredo Pareto made the statement that “20% of the population owned 80% of the property in Italy”. In 1940, Joseph Juran, a mechanical engineer, reapplied Pareto’s principle. In doing so, he created Patero analysis or ABC analysis. Juran said that by using this analysis you could separate the “vital few” from the “trivial many”. Managers use this analysis today to prioritize tasks by those are of most “worth”.

The concept of ABC analysis

In the context of an inventory system this suggests that there are a few items which contribute most of the inventory costs and a large number of items whose costs are relatively low. This is also known as the 80-20 phenomenon, as approximately 20 percent of the items contribute 80 percent of the cost and the remaining 80 percent of items account for only 20 percent of costs.

Obviously, it is important to maintain tight controls on the 20% and moderate controls on the rest, in other words, it means that 80% of inventory items need 20% of attention.

The concept of ABC analysis

Therefore, ABC analysis is a useful and appropriate technique for classifying inventory items according to the importance of their contribution to the annul cost of the entire inventory system. Inventory has been divided into the following categories:

A item are expensive = 70/80% of the total cost or value of all items (10-20% of all items) and requiring special care.