ABC Analysis

Operation Management

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Career Point
University
KOTA (RAJ.)



OPERATION MANAGEMENT

“Project on ABC Analysis”

Submitted To: Submitted By:
CMA Jai Bansal Sir
(Astt. Prof.)


Ashim Roy (K-13226)
Shalu Bharadwaj (K-13995)
Manoj Verma (K-14041)
Nitesh Agrawal (K-13364)
Sonam Sharma (K-13645)
Swati Sahu (K-314075)

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ACKNOWLEDGEMENT

We would like to express our special thanks of gratitude to our
teacher CMA JAI BANSAL sir and HOD Mr. Ashish Suri Sir who gave
us the golden opportunity to do this wonderful project on the topic “ABC
INVENTORY ANALYSIS ”, which also helped us in doing a lot of
Research and we came to know about so many new things. We are really
thankful to them. Secondly we would also like to thank our parents and
friends who helped us a lot in finishing this project within the limited time.
We are also making this Assignment not only for marks but also to
increase our knowledge.
THANKS AGAIN TO ALL WHO HELPED US.

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INDEX


 Abstract Pg. 04
 Introduction Pg. 05
 ABC Analysis Categories Pg. 06
 Technical Analysis Pg. 07
 Uses / Facts Pg. 09
 The Three Classes Used in ABC Analysis Pg. 11
 Industry Uses and Applications Pg. 12
 Challenges of ABC Analysis Pg. 13
 Future Trends with ABC Analysis Pg. 14
 Advantages / Disadvantages Pg. 15
 Conclusion Pg. 16
 Bibliography Pg. 16

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ABSTRACT:

ABC analysis is a method of analysis that divides the subject up into three categories: A, B and C.
Category A: Represents the most valuable products or customers that you have. These are the
products that contribute heavily to your overall profit without eating up too much of your resources.
This category will be the smallest category reserved exclusively for your biggest money makers.
For example, a software company might engineer different pieces of software, but one is niche
software that can be sold at a significantly higher price than the others. That’s why it accounts for about
60% of the overall revenue, although the company sells far less of these products compared to other
software categories. Hence, this specific software is a category a product.
Category B: Represents your middle of the road customers or products. Many wrongly approach
this group as those who contribute to the bottom line but aren’t significant enough to receive a lot of
attention.
Yet, category B is all about potential. The members of this category can, with some
encouragement, be developed into category a items.
Category C: It is all about the hundreds of tiny transactions that are essential for profit but don’t
individually contribute much value to the company. This is the category where most of your products or
customers will live. It is also the category where you must try to automate sales as much as possible to drive
down overhead costs.

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INTRODUCTION:
“In materials management, the ABC analysis (or selective inventory control) is an inventory
categorization technique. Thus, the inventory is grouped into three categories (A, B, and C) in order
of their estimated important. ‘A’ item are very important for an organization.”
ABC analysis is a system for inventory control used throughout materials and distribution
management. It is also sometimes referred to as selective inventory control, or SIC. ABC analysis
can be put to use for a wide range of inventory items, such as manufactured products, components,
spare parts, finished goods, unfinished goods or sub-assemblies. Whatever sort of items on an
inventory it is used for, the approach works by setting all of them into three distinct categories.
Therefore, ABC analysis is a system of categorization, using three classes, of which each class has a
differing management control. An analysis of a range of item that have different levels of
significance and should be handled PR controlled differently.

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ABC ANALYSIS CATAGORIES:

There is no fixed threshold for each class, different proportion can be applied based on objective
and criteria. ABC Analysis is similar to the Pareto principle in that the 'A' items will typically
account for a large proportion of the overall value but a small percentage of number of items.
Examples of ABC class are:

 ‘A’ items – 20% of the items accounts for 70% of the annual consumption value of the items.
 ‘B’ items - 30% of the items accounts for 25% of the annual consumption value of the items.
 ‘C’ items - 50% of the items accounts for 5% of the annual consumption value of the items.

Another recommended breakdown of ABC classes:
1. "A" approximately 10% of items or 66.6% of value.
2. "B" approximately 20% of items or 23.3% of value.
3. "C" approximately 70% of items or 10.1% of value.

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TECHNICAL ANALYSIS:
In finance, technical analysis is a security analysis methodology for forecasting the direction
of prices through the study of past market data, primarily price and volume. Behavioural
economics and quantitative analysis use many of the same tools of technical analysis, which, being
an aspect of active management, stands in contradiction to much of modern portfolio theory. The
efficacy of both technical and fundamental analysis is disputed by the efficient-market
hypothesis which states that stock market prices are essentially unpredictable.

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Technical Analysis is the forecasting of future financial price movements based on an
examination of past price movements. Like weather forecasting, technical analysis does not result in
absolute predictions about the future. Instead, technical analysis can help investors anticipate what is
“likely” to happen to prices over time. Technical analysis uses a wide variety of charts that show
price over time.

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Technical analysis is applicable to stocks, indices, commodities, futures or any tradable
instrument where the price is influenced by the forces of supply and demand. Price refers to any
combination of the open, high, low, or closes for a given security over a specific time frame. The
time frame can be based on intraday (1-minute, 5-minutes, 10-minutes, 15-minutes, 30-minutes or
hourly), daily, weekly or monthly price data and last a few hours or many years. In addition, some
technical analysts include volume or open interest figures with their study of price action.


USE/FACTS:
ABC analysis can be efficiently utilized for the stores layout as well. Quite a bit of time and
effort can be saved, which otherwise is lost in locating the items, by depositing the fast moving items
near the points of issue. The object of carrying our ABC analysis is to develop policy guidelines for
selective controls. Normally, once analysis has been done, the following broad policy guidelines can
be established in respect of each category.
‘A’ items merit a tightly controlled inventory system with constant attention by the purchase
manager and stores management.
‘B’ items formalized inventory system with periodic attention by purchase and stores management.
‘C’ items use a simpler system designed to cause the least trouble for the purchase and stores
department.

A items: High consumptions value
1) Very strict control.
2) No safety stock.
3) Frequent ordering.
4) Weekly control statements.
5) As many sources as possible for each item.
6) Rigorous value analysis.
7) Accurate forecast in materials planning.
8) Minimization of waste obsolete and surplus.
9) Maximum efforts to reduce lead time.

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B items: Moderate value
1) Moderate control.
2) Low safety stock.
3) Once in 3 weeks.
4) Monthly control reports.
5) Two or more reliable sources.
6) Moderate value analyses.
7) Estimate based on past data on present plans.
8) Quarterly control over surplus and obsolete items.
9) Moderate efforts.

C items: Low consumptions value
1) Low control.
2) High safety stock.
3) Bulk ordering once in 6 months.
4) Quarterly control reports.
5) Two reliable sources for each item.
6) Minimum value analysis.
7) Rough estimates for planning.
8) Annual review over surplus and obsolete materials.
9) Minimum clerical efforts.

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The Three Classes Used in ABC Analysis:

The ‘ABC’ in ABC analysis, as known as ABC Classification, refers to the three classes or
categories used in the system. The first, A, is the category for items that are outstandingly important,
or business critical. The second, B, is the classification for items of average or middling importance.
Finally, category C is the designation for relatively unimportant items. As a basis for a control
scheme, each class ought to be handled in a different way. As you might have guessed, more
attention will usually be devoted to category A items, with less to B and still less further to C.
Many people are familiar with the so-called ’80/20 rule’, also known as the Pareto Analysis,
which can be put to use with the ABC analysis for inventory management. Under this rule, in terms
of consumption, 80 percent of the value of inventory would be held in about 20 per cent of the items.
By using this principle, categories B and C would make up the remaining 80 per cent of the items,
perhaps B with 30 per cent and C with 50 percent.
However, in terms of their consumption value B and C would make up on 20 per cent of the
value combined, with C the least, perhaps split at 15 per cent and 5 per cent respectively. The
percentages will vary based on a distributor’s unique inventory control needs.
This means that ABC analysis confirms to the Pareto principle which states that items that
account for a large proportion of the overall value are small in number and that items with a low
overall value are high in number. It is also worth remembering that the proportions of the ABC
values, both in terms of their consumption value and their number of items, are not set in stone, so
long as they add up to 100 percent.

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Industry Uses and Applications:
Extensively used for supply chain management, inventory systems and stock checking
methods, ABC analysis is often applied to the design of cycle counting systems. For example, a
warehouse or factory store might choose to count A items, of high worth once a quarter, but B items
only two times a year with and C items only counted once.
From an optimization point of view, companies looking to drive down working capital and
carrying costs should be analysing inventory far more frequently as these industry averages leave the
door open for large quantities of excess stock and obsolete stock to pile up in warehouses.
Unfortunately, most wholesale distributors and manufacturers do not put this into practice and as a
result have a large percentage of working capital tied up in unhealthy inventory levels.


Stock checking and tighter control of higher value items not only helps to maintain a better
idea of the value of assets being held at any one time, but also assists with reordering, whereby
reorder points for the different classes are handled with their own controls, with perhaps less high-
value items being held in stock at any one time and more frequent reordering of them done to
compensate.
Likewise, slow moving category C items should not usually be re-ordered with the same
frequency as B items because money will be tied up in stock as a result. Performing ABC analysis
helps both wholesalers and distributors to identify which items should be brought into stock – and
when – so that customer demands can be met whilst maintaining a healthy balance sheet.

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Challenges of ABC Analysis:

One of the major industry challenges for warehouse and supply chain managers with ABC
analysis is identifying when items could fall into one of two categories, perhaps A or B. With the rise
of mobile e-commerce, social media and 3rd party retailers like Amazon, this means that items in
inventory which were historically considered lower value can move into a higher category if
shortages occur due to abnormal spikes in sales. It is the ability to pick up on these trends and
outliers that helps with the necessary reclassification of a higher value item.
Another problem with ABC analysis is that it does not work with Generally Accepted
Accounting Principles requirements, or GAAP, which are a common set of accounting principles,
standards, rules and procedures that companies use to compile their financial statements. Because it
conflicts with GAAP and other traditional costing systems, stock that is managed under ABC
analysis commonly requires a second costing system, one for internal use alongside the ABC method
and another one to comply with GAAP.
The ABC method requires more resources to maintain than traditional costing systems. When
cycle counts are performed, class A inventory must be routinely analysed to determine if the
inventory still consists of high-priority items. If an inventory piece is no longer in demand or
demanded has changed, it is moved to another inventory classification, which can be monitored
through complimentary inventory optimization tools, like Easy Stock. This constant process requires
much more data measurement and collection

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Future Trends With ABC Analysis:

The supply chain management sector is not the only place that ABC analysis can be used.
Increasingly, large service sector companies have found that they have found the profitability
analytics derived from the method are useful, perhaps not in terms of the number of customers, but in
terms of transactions.



Retail banks and healthcare companies have both used ABC analysis successfully in the past
and other service sector companies are also likely to benefit from the system in the future,
particularly those with high transactional volumes, such as a internet retailers and e-commerce drop
shippers that leverage 3rd party logistics services.
Let’s address the original question, what is ABC analysis for inventory optimization? ABC
analysis is a tool within a greater subset of tools to help inventory managers and owners more
effectively manage their inventory turnover and profitability. Knowing what items are business
critical is the first step, but being able to make more educated decisions around stocking policies
based on actual customer demand will drive actionable improvements in operational efficiencies.
When it comes to managing large volumes of inventory, simply managing the movement of those
items is not an effective strategy to ensure your costs are properly managed and that stock levels are
optimized.

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Advantages of ABC analysis:

The advantages of ABC analysis are as follows:

a. Reduction in investment: under ABC analysis, the materials from group 'A' are purchase in
lower quantities as much as possible. With this, the effort to reduce the delivery period is also
made. These in turn help to reduce the investment in material.

b. Strict control: under ABC analysis, strict control can be exercised to the materials in group
'A' that have higher value.

c. Minimum storage cost: since, the ,material from group 'A' are purchase in lower quantities as
much as possible, it reduce the storage cost as well.

d. Saving in time: since a signification effort is made for management of the material from
group 'A', it helps to save time as well.

e. Economy: this method is economical, since equal time and labour is not needed for all types
of materials.

Disadvantage of ABC analysis:

The disadvantage of ABC analysis is as follow:

• ABC analysis will not be effective if the materials are not classified into the groups properly.

• It is not suitable for the organization where the costs of materials do not very significantly.

• There is no any scientific base for the classification of material under ABC analysis.

• The classification of the materials into different groups may lead to extra cost. Hence, it may not be
suitable for small organization.

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CONCLUSION:
Traditionally, ABC analysis has been used to classify various inventory items into three
Categories - A, B, and C. This has been done based on the criterion of dollar volume.
In the current globalized hyper – responsive business environment, a single criterion is no longer an
adequate guide to the management of inventories and multiple criteria have to be considered.
Researchers in operations and inventory management recognized this fact in the early 1980s and
since then have proposed numerous approaches to multi – criteria ABC classification. However, text
books of operations management and supply chain management have not followed their lead but
continue to discuss ABC analysis based on the idea of annual dollar volume. In this paper, the
authors review the literature to date and argue that multi - criteria ABC analysis is a mature concept
that needs to make its way into textbooks.
Authors should revise their coverage to include a detailed coverage of the concept and
methodology of multi - criteria ABC analysis. Such a revision will make their textbooks more
relevant to the current business environment and provide students with the skills they need to
function and contribute in the workplace. As a result, companies will be able to manage their
inventories better and be more competitive in the marketplace.



BIBLIOGRAPHY:
 www.google.com
 www.wikipedia.com
 http://onlineaccountreading.blogspot.in
 http://files.eric.ed.gov
 http://smallbusiness.chron.com