In the manufacturing business to survive, we need an efficient inventory management. We need to know our Cost of Production, how much is used and how much remaining and where they are? One powerful tool that can revolutionise your inventory management practices is ABC Analysis. By implementing ABC Inventory Analysis, manufacturers can gain valuable insights into their inventory, prioritize resources, and make informed decisions that drive profitability. Here, we explore what ABC Analysis is, how it works, and the advantages and disadvantages it offers to manufacturing companies etc.

What is ABC Analysis?

ABC Analysis, also known as Pareto Analysis or the 80/20 rule, is a technique used to categorize inventory items based on their value and significance. It classifies items into three categories: A, B, and C.

• Category A: These are high-value items that contribute significantly to sales revenue and profits. They typically represent a small percentage of the total inventory but have a substantial impact on the company’s financial performance.
• Category B: These items have a moderate value and impact on the business. They constitute a moderate percentage of the inventory and generate a reasonable portion of sales and profits.
• Category C: These items are low-value, low-priority items that make up the majority of the inventory but contribute to a small portion of sales and profits.

Each company has their own ways to identify A, B and C category items. It may be costs, values, fast or slow moving items etc.

How ABC Stock Analysis Works?

ABC Stock Analysis, also known as ABC Classification or ABC Analysis, is a method used in inventory management to categorize items based on their value and significance. The goal of ABC Stock Analysis is to prioritize inventory management efforts and allocate resources effectively. It is widely used in supply chain management, retail, and various other industries to optimize inventory control and ensure efficient operations.

The items are classified into three categories:

1. A Items: These are high-value items that represent a relatively small portion of the total inventory but contribute significantly to the overall revenue or sales. These are the most critical items in the inventory.
2. B Items: B items are medium-value items that account for a moderate portion of the inventory and contribute reasonably to the total revenue or sales.
3. C Items: C items are low-value items that constitute a large portion of the inventory but contribute relatively little to the overall revenue or sales.

The categorization is typically done based on the Pareto principle, also known as the 80/20 rule, which states that roughly 80% of the effects come from 20% of the causes. In the context of ABC Stock Analysis, it means that approximately 80% of the total value comes from 20% of the items (A items).

Let’s illustrate how ABC Stock Analysis works with an example: Suppose you run an electronic retail store, and you want to analyze your inventory to prioritize your stock management efforts.

Step 1: Data Collection You gather data on each product in your inventory, including the following information:

• Product name
• Unit cost
• Total sales revenue for each product over a specific period (e.g., a year)

Step 2: Calculation

1. Calculate the contribution to total revenue for each product by dividing its total sales revenue by the overall revenue during the specified period.
2. Sort the products in descending order based on their contribution to total revenue.

Step 3: Categorization After sorting the products, you can apply ABC Stock Analysis as follows:

• A Items: The top 20% of the products that contribute to 80% of the total revenue. These are high-value and critical products that need close monitoring and efficient management.
• B Items: The next 30% of the products that contribute to the next 15% of the total revenue. These are medium-value products that require moderate management efforts.
• C Items: The remaining 50% of the products that contribute to the last 5% of the total revenue. These are low-value products that require minimal management efforts.

Step 4: Inventory Management With the ABC classification done, you can now focus your inventory management efforts accordingly:

• A Items: These high-value products require more attention, regular restocking, and perhaps safety stock to avoid stockouts.
• B Items: Moderate attention is given to managing these items to maintain adequate stock levels.
• C Items: Since these items contribute less to revenue, they require basic inventory management, and stock levels can be kept relatively low.

By applying ABC Stock Analysis, you can ensure that your inventory management efforts are aligned with the value and importance of each product, optimizing the use of resources and improving overall inventory control.

Advantages and Disadvantages of ABC Inventory Analysis?

ABC Inventory Analysis offers several benefits to manufacturing companies:

• Optimal Resource Allocation: ABC Analysis helps prioritize resources, time, and efforts on high-value items (Category A). By focusing on the most significant contributors to revenue and profits, companies can maximize their return on investment.
• Inventory Optimization: With ABC Analysis, companies can streamline inventory management by setting appropriate inventory control policies for each category. Category A items may require tighter control, while Category C items can be managed with less stringent measures.
• Cost Reduction: By identifying slow-moving or low-value items (Category C), manufacturers can take appropriate actions to reduce costs, such as implementing clearance sales, negotiating better terms with suppliers, or discontinuing unprofitable products.

However, there are a few considerations to keep in mind:

• Data Accuracy: ABC Stock Analysis relies heavily on accurate and up-to-date data. It is essential to maintain accurate records of sales, costs, and inventory values to ensure the analysis provides reliable insights.
• Subjectivity: The categorisation criteria for ABC Inventory Analysis can vary based on the company’s specific goals and industry. It requires careful consideration and subjectivity in setting the thresholds for each category.

Implementing ABC Analysis in your manufacturing company can revolutionize your inventory management practices. By prioritizing high-value items, optimizing resources, and reducing costs, you can enhance operational efficiency and drive profitability. To unlock the full potential of ABC Analysis, consider utilizing our ACTouch Cloud ERP Software. With its advanced inventory management features and real-time data analysis, it empowers manufacturers to make data-driven decisions, streamline operations, and achieve sustainable growth.

Remember, successful inventory management is the cornerstone of a thriving manufacturing business, and ABC Analysis is your key to unlocking its full potential.

Note: – It is important to note that, in Manufacturing companies, we use “ABC Analysis” word frequently and it’s called “Activity Based Costing”. This helps to arrive at the products costing, value additions like Labor costs, machining costs added to convert the RM into Semi FG or FG (Saleable item).

Implementation of ABC Inventory Analysis in Manufacturing Companies

Implementing ABC Analysis in manufacturing companies is a strategic process that involves careful planning, data analysis, and effective execution. By following the steps outlined below, businesses can successfully integrate ABC Analysis into their inventory management practices:

1. Data Collection: To begin, gather relevant data on inventory items, including sales volume, unit price, costs, and contribution to profits. This information can be obtained from sales records, financial statements, and inventory management systems. Ensure the data is accurate, up-to-date, and comprehensive.
2. Ranking: Rank the inventory items in descending order based on their value. This ranking is typically done by calculating the cumulative percentage of the total value. The items with the highest value contribute the most to revenue and profits & should be categorised as Category A.
3. Categorization: Allocate inventory items into three categories: A, B, and C. The categorization can be based on predetermined criteria, such as the cumulative percentage of the total value or the 80/20 rule. The top 20% of items that contribute to 80% of the value are usually classified as Category A. The remaining items are divided between Category B and Category C.
4. Resource Allocation: Once the categorization is complete, allocate resources and attention accordingly. Category A items, being the most valuable, should receive the highest level of focus and management. This may involve setting stricter inventory control measures, conducting regular audits, and closely monitoring sales and demand patterns. Category B items require moderate attention, while Category C items, being of lower value, can be managed with less stringent measures.
5. Inventory Control Policies: Establish inventory control policies tailored to each category. For Category A items, consider implementing measures such as frequent replenishment, safety stock, and just-in-time inventory management to ensure availability and minimize stockouts. Category B items may require periodic review and replenishment, while Category C items can be managed with more relaxed policies, such as longer reorder intervals or vendor-managed inventory arrangements.
6. Regular Analysis and Review: ABC Analysis is not a one-time process but rather an ongoing practice. Regularly review and update the categorization based on changing business conditions, market dynamics, and shifts in product demand. Analyze the performance of each category and identify opportunities for improvement, cost reduction, and inventory optimization.
7. Technology Integration: Leverage technology, such as our ACTouch Cloud ERP Software, to streamline the implementation of ABC Analysis. Advanced inventory management systems provide real-time data, automated reporting, and analytics capabilities. These features enable manufacturers to generate accurate ABC reports, monitor inventory performance, and make data-driven decisions for effective inventory management.

By implementing ABC Inventory Analysis in manufacturing companies, businesses can benefit from improved inventory control, optimised resource allocation, reduced costs, and enhanced profitability. It allows companies to focus their efforts on high-value items, maintain adequate stock levels, minimize stockouts, and make informed decisions about procurement, production, and sales strategies.