INVENTORY CONTROL TECHNIQUE ABC ANALYSIS 1
Introduction • One of the most important considerations of control is the value of annual consumption of inventory items in a year. • Only a small number of inventory items consume a very large share of inventory consumption during the year. • A little larger number of inventory items covers a moderate share of annual inventory consumption. • A very large number of items just cover a very small share of annual inventory consumption. • These facts gave birth to the concept of ABC analysis. 2
ABC Inventory Classification • ABC classification is a method for determining level of control and frequency of review of inventory items • A Pareto analysis can be done to segment items into value categories depending on annual dollar volume • A Items – typically 20% of the items accounting for 80% of the inventory value-use Q system • B Items – typically an additional 30% of the items accounting for 15% of the inventory value-use Q or P • C Items – Typically the remaining 50% of the items accounting for only 5% of the inventory value-use P
Policies For “A” group items • Develop class A suppliers more • Forecast A items more carefully • Purchasing department make maximum efforts to expedite and delivery of these items • Purchase of these items in hands of top officials • The stock report of ‘A’ items should be sent more frequently, say at least once in 15 days.
Policies for “B” group items • Order quantities, re-order stocks and safety stock should be fixed and revised for ‘B’ items at least one in every 4 to 6 months. • B items should be ordered less frequently than A items
Policies for “C” group items • Large quantities can be brought at a time, as total investment will be least. • Paper work can be reduced considerably if orders are placed once or twice a year • The source of supply can be one or two based on their reliability.
Advantages of ABC Analysis • Helps to exercise selective control • Gives rewarding results quickly • Helps to point out obsolete stocks easily. • In case of “A” items careful attention can be paid at every step such as estimate of requirements, purchase, safety stock, receipts, inspections, issues, etc. & close control is maintained. • In case of “C” items, recording & follow up, etc. may be dispensed with or combined. • Helps better planning of inventory control • Provides sound basis for allocation of funds & human resources.
Disadvantages of ABC Analysis • Proper standardization & codification of inventory items needed. • Considers only money value of items & neglects the importance of items for the production process or assembly or functioning. • Periodic review becomes difficult if only ABC analysis is recalled. • When other important factors make it obligatory to concentrate on “C” items more, the purpose of ABC analysis is defeated.
STEPS IN ABC ANALYSIS The steps in computing ABC analysis are: a Determine the annual usage in units for each item for the past one-year. b. Multiply the annual usage quantity with the average unit price of each item to calculate the annual usage in US$ for each item. c. Item with highest dollar usage annually is ranked first. Then the next lower annual usage item is listed till the lowest item is listed in the last. d. Table 1 shows ranks of the items according to the annual usage in US$. for 10 items. e. Arrange the items in the inventory by cumulative annual usage (dollars) and by cumulative percentage. Categorize the items in A, B , and C categories. 10