What Is ABC Classification in Operations Management?
ABC Classification is an effective way to manage your stock/inventory. To determine how to define the classification of each inventory type, an initial analysis will need to be undertaken by dissecting the products or services by value, supplier, type or volume.
What Is the ABC Method?
The ABC Method divides suppliers and their inventory into categories based on cost per unit and quantity of stock. The ABC classification framework helps to identify which items in your warehouse are the most important and therefore should consume most critical attention, management and control. Typically the breakdown is as follows:
- A items represent 10% of total inventory lines but are 70% of the total annual value
- B items represent 20% of total inventory lines but are 20% of the total annual value
- C items represent 70% of total inventory lines but are only 10% of the total annual value
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Six Benefits of ABC Analysis by Dr Muddassir Amed
Not all items in an inventory are of the same value, therefore these items are broken down into three categories A, B and C. Class A consists of most valuable items, although these items constitute only the 10% of quantity they account for 70% – 80% of consumption value...
How Is ABC Classification Calculated?
To calculate your ABC classification you would utilise historical sales data and forward forecasts to identify which 20% of your products generate 80% of your sales.
It is recommended that you identify products that generate value NOT volume, for example, you may have an item that generates $100 profit per transaction and sell it infrequently, yet have a second stock item that you sell in higher volume but it only generates $1 profit per transaction.
At this point you are in a position to calculate the annual consumption value, this will then enable you to classify your products A, B or C. Full details on this calculation can be found in the full knowledge paper ABC inventory classification.
Why Do We Use ABC Classification?
Not every organisation opts to use classification for their product range, however this often leads to the organisation trying to ensure that they have stock of their full product range at all times as ‘everything’ is classified as urgent.
Any organisation that fails to plan and build in a classification system will not have effective control over its inventory management and therefore their cash flow. Classification enables focus on activity that surrounds critical stock lines and an increased level of effective stock management whilst reduces the impact of excess, end of life, or high volumes of phase-out products.
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ABC Inventory Classification:
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