ABC Analysis Question 1.

(Waters, 2009)
Even a simple inventory control system needs some effort to make sure things run smoothly.
For some items, especially cheap ones this effort is not worthwhile. Very few organisations
include routine stationery or nuts and bolts in their stock control system.
At the other end of the scale are very expensive items that need special care above routine
calculations. For example, aircraft engines are very expensive and airlines have to control
their stocks of spare engines very carefully.
An ABC analysis puts items into categories that show the amount of effort worth spending on
inventory control. This is the standard Pareto Analysis or the ‘80/20 rule’, which suggests
that 20 per cent of inventory items need 80 per cent of the attention, while the remaining 80
percent of items need only 20 per cent of the attention. ABC analysis defines:
 A items as expensive and needing special care
 B items as ordinary ones needing standard care
 C items as cheap and needing little care
Typically an organization might use an automated system to deal with B category items. The
computer system might make some suggestions for A items, but decisions are made by
managers after reviewing all the circumstances, C items might be excluded from the
automatic system and controlled by ad hoc methods.
An ABC analysis starts by calculating the total annual use of each item by value. This is
found by multiplying the number of units used in a year by the unit cost. Usually a few
expensive items account for a lot of use, while many cheap items account for little use. By
listing the items in order of decreasing annual use by value, A items are at the top of the list,
B items are in the middle and C items are at the bottom of the list.
Worked Example Question 1. (Waters, 2009)
For example, a small store has 10 categories of products with more than one item or stock
keeping unit (SKU) in each category, such as snacks, with the following costs:

Product Unit cost (£s) Demand

P1 20 250
P2 10 5000
P3 20 2000
P4 50 6600
P5 10 1500
P6 50 600
P7 5 1000
P8 20 500
P9 100 100
P10 1 5000
You are required to do an ABC analysis of these items. If resources are limited which items
should be given the least attention?

1
Answer
The annual use of P1 items in terms of value is: Number x Unit Cost:
P1 items Value = 20units x £250 = £5,000.
Repeating this calculation gives the following results:
Unit Deman Annual
cost d Use
Product (£s) (Units) (£s)
P1 20 250 5000
P2 10 5000 50000
P3 20 2000 40000
P4 50 6600 330000
P5 10 1500 15000
P6 50 600 30000
P7 5 1000 5000
P8 20 500 10000
P9 100 100 10000
P10 1 5000 5000
Sorting these into order of decreasing annual use gives the following results:
unit Deman Annual Cumulative As a Cumulative
cost d Use annual use Percentage percentage
Product (£s) (Units) (£s) (£s) (%) (%)
P4 50 6600 330000 330000 66.00 66.00 A
P2 10 5000 50000 380000 10.00 76.00 B
P3 20 2000 40000 420000 8.00 84.00 B
P6 50 600 30000 450000 6.00 90.00 B
P5 10 1500 15000 465000 3.00 93.00 C
P8 20 500 10000 475000 2.00 95.00 C
P9 100 100 10000 485000 2.00 97.00 C
P1 20 250 5000 490000 1.00 98.00 C
P7 5 1000 5000 495000 1.00 99.00 C
P10 1 5000 5000 500000 1.00 100.00 C
With £500,000 being the total annual use; we can calculate the percentage of each category of
products and the cumulative percentage. We can then categorize the products as either A, B
or C as shown.
The boundaries between categories of items are often unclear in practice and do not rigidly
obey the Pareto Analysis rule of ‘80/20’, which suggests that 20 per cent of inventory items
need 80 per cent of the attention, while the remaining 80 percent of items need only 20 per
cent of the attention.
However, in this example Product line P4 is clearly an ‘A’ item with 66% of the annual use
(i.e. sales). The Product lines P2, P3 and P6 are ‘B’ items accounting for 24% of annual use
and the rest are ‘C’ items accounting for 10% of annual use.
All the ‘C’ items account for only 10 percent of annual use by value. If resources are limited,
these items should be given the least attention.

2
ABC Analysis Question 2. (Collier & Evans, 2017; p224-225)
Consider the data for twenty inventory items of a small company (see figure 1). The projected
annual pound (£) usage in column D is found by multiplying the projected annual usage by
the unit cost. The right side of the spreadsheet computes the cumulative pound (£) usage,
cumulative percent of total pound (£) usage, and cumulative percent of items.
To apply the Pareto Principal, we must next sort the data in columns A through to D by the
projected annual pound (£) usage, largest first (see figure 2). The result is shown in figure 2.
Analysis of figure 2 indicates that about 70% of the total pound (£) usage is accounted for by
the first five items; that is, only 25% of the items. In addition, the lowest 50% of the items
account for only about 5% of the total pound (£) usage. It is possible to draw a diagram or a
histogram of the ABC analysis classification scheme for this set of data.
Results of the Analysis
Results are shown in the following Spreadsheet output and diagrams.
Main results are that:
 4 products produce £1,681,250 (62.72%) of all sales at the company and could
reasonably be categorized as ‘A’ products. This is not quite in complete agreement
with the Pareto Principle. These category ‘A’ products must be kept in stock in order
to maintain excellent customer service and make the most money for the business.
 7 products produce approximately 78% of all sales but represent about 35% of the
number of products. These could easily be categorized as ‘A’ products and produce
approximately £2,000,093 of sales. Again this is not in complete agreement with the
Pareto Principle. It is arguable that all 7 products should be kept in stock in order to
maintain excellent customer service and make the most money for the business. Thus
these lost on points show that there is some element of judgement as to which
category the products are in when managing warehouse inventories.
 There between 6 and 3 products which arguably fall between the category ‘A’ and ‘C’
categories depending on the interpretation of the graphs. These products are category
‘B’ products which do not produce as much in sales as the ‘A’ category products.
These products, between items 5 and items 10 make approximately £789,000 or
29.4% of sales for the business which is significant but not as significant as the
category ‘A’ products. These category ‘B’ products should be maintained in stock.
 There is a long ‘tail’ of 10 products which produce very little sales for the company
individually and this can be seen in the spreadsheets and diagrams below. In fact,
these 10 products could be reasonably described as category ‘C’ products as they only
generate £210,200 or 7.84% of sales for the company.
 The Pareto analysis is not completely in agreement with the Pareto Principle but every
company is slightly different. However it is clear that the company makes most of its
money from category ‘A’ products category ‘B’ products, that is combined they make
£2,470,250 or 92.16% of the sales. The category ‘C’ products make up only a few
percent of the sales. Some of these products such as item number 19 could be
reasonably phased out.

3
Figure 1. Initial data for ABC Inventory Analysis and Cumulative Figures
Item Projected Unit Cost Projected Cumulative Cumulative Cumulative
number Usage (£) Usage annual Pound (£) Percent of Percent of
Annual (£) Usage total Items
1 15000 5.00 75000.00 75000.00 2.80% 5%
2 6450 20.00 129000.00 204000.00 7.61% 10%
3 5000 45.00 225000.00 429000.00 16.00% 15%
4 200 12.50 2500.00 431500.00 16.10% 20%
5 20000 35.00 700000.00 1131500.00 42.21% 25%
6 84 250.00 21000.00 1152500.00 43.00% 30%
7 800 80.00 64000.00 1216500.00 45.38% 35%
8 300 5.00 1500.00 1218000.00 45.44% 40%
9 10000 35.00 350000.00 1568000.00 58.50% 45%
10 2000 65.00 130000.00 1698000.00 63.35% 50%
11 5000 25.00 125000.00 1823000.00 68.01% 55%
12 3250 125.00 406250.00 2229250.00 83.17% 60%
13 9000 0.50 4500.00 2233750.00 83.33% 65%
14 2900 10.00 29000.00 2262750.00 84.42% 70%
15 800 15.00 12000.00 2274750.00 84.86% 75%
16 675 200.00 135000.00 2409750.00 89.90% 80%
17 1470 100.00 147000.00 2556750.00 95.39% 85%
18 8200 15.00 123000.00 2679750.00 99.97% 90%
19 1250 0.16 200.00 2679950.00 99.98% 95%
20 2500 0.20 500.00 2680450.00 100.00% 100%

Total £2,680,450.00

4
Figure 2. ABC Inventory Analysis After Sorting by Projected Usage (Highest to Lowest)
Projected Projected Cumulative Cumulative Cumulative
Item Usage Unit Cost Usage annual Pound (£) Percent of Percent of
number Annual (£) (£) Usage total Items
5 20000 35.00 700000.00 700000.00 26.12% 5%
12 3250 125.00 406250.00 1106250.00 41.27% 10%
9 10000 35.00 350000.00 1456250.00 54.33% 15%
3 5000 45.00 225000.00 1681250.00 62.72% 20%
17 1470 100.00 147000.00 1828250.00 68.21% 25%
16 675 200.00 135000.00 1963250.00 73.24% 30%
10 2000 65.00 130000.00 2093250.00 78.09% 35%
2 6450 20.00 129000.00 2222250.00 82.91% 40%
11 5000 25.00 125000.00 2347250.00 87.57% 45%
18 8200 15.00 123000.00 2470250.00 92.16% 50%
1 15000 5.00 75000.00 2545250.00 94.96% 55%
7 800 80.00 64000.00 2609250.00 97.34% 60%
14 2900 10.00 29000.00 2638250.00 98.43% 65%
6 84 250.00 21000.00 2659250.00 99.21% 70%
15 800 15.00 12000.00 2671250.00 99.66% 75%
13 9000 0.50 4500.00 2675750.00 99.82% 80%
4 200 12.50 2500.00 2678250.00 99.92% 85%
8 300 5.00 1500.00 2679750.00 99.97% 90%
20 2500 0.20 500.00 2680250.00 99.99% 95%
19 1250 0.16 200.00 2680450.00 100.00% 100%

Total £2,680,450.00

5
 3000000.00
C u m u lati ve P o u n d (£ ) sale s

2500000.00

2000000.00

‘C’ category products

1500000.00

£1,681,250
1000000.00

500000.00
‘B’ category
0.00 products
0 5 10 15 20 25

Number of Items
‘A’ category
products

20% (i.e. 4 items)

120.00%
C u m u lati ve p e r ce n t age sale s

100.00%

80.00%

60.00%

40.00%

20.00%

0.00%
0% 20% 40% 60% 80% 100% 120%
Cumulative percentage of Items

6
ABC Analysis Homework Questions with Answers
Note: These questions are typical two part examination style questions.
ABC Analysis Question 3.
Question 3.
Part (a)
What is involved in warehouse management systems? How are stocks of raw
materials maintained? Why are stocks of raw materials maintained?

Part (b)
A retailer has a Toy Department which seems to be very busy with 12 product lines
with differing numbers of stock keeping units. Some product lines seem to move
more slowly than others. The retailer is now reviewing the stock control situation in
the Toys Department and has obtained the following data from the Purchasing
Department.

Product SKUs in each

Unit cost (£s) Demand
Line Product Line
T1 55 3000 8
T2 50 1000 10
T3 15 3000 12
T4 20 2000 5
T5 50 600 6
T6 100 100 9
T7 25 300 7
T8 5 350 5
T9 5 400 4
T10 1 1000 5
T11 3 500 8
T12 2 400 3
Your job as the Operations Manager is to:
(a) Carry out an ABC analysis.
(b) Determine the overall total of the stock keeping units stocked by the Toys
Department.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.
(d) Critically evaluate the situation in the Toys Department and make some
recommendations to the company.

7
Question 3. Answer
Part (a)
What is involved in warehouse management systems? How are stocks of raw
materials maintained? Why are stocks of raw materials maintained?
Answer
What is involved in warehouse management systems?
A warehouse management system (WMS) is a software solution that offers visibility
into a business' entire inventory and manages supply chain fulfillment operations
from the distribution center to the store shelf.
The purpose of a WMS is to help ensure that goods and materials move through
warehouses in the most efficient and cost-effective way. A WMS handles many
functions that enable these movements, including inventory tracking, picking,
receiving, and put away.
The core components of a warehouse management system will handle receiving and
returns, warehouse logistics, third-party software integrations, and provide robust
forecasting and reporting tools. A WMS will record the receipt of stock and returns
into a warehouse facility.
The six fundamental warehouse processes comprise receiving, put-away, storage,
picking, packing, and shipping. Optimizing these six processes will allow you to
streamline your warehouse operation, reduce cost and errors, and achieve a higher
perfect order rate.
How are stocks of raw materials maintained?
Very often raw materials are maintained in stock using a reorder quantity reorder
level system (manually or using a computerised system) often known as a ROQ/ROL
system usually with safety stock. Sometimes the Economic Order Quantity is used
but it has been widely discredited because it cannot be used for low turnover
products and often the holding costs are so small compared to the administrative re-
order costs that it is not viable to frequently order small quantities of some items kept
in stock.
The key difference between reorder level and reorder quantity is that the reorder
level is the inventory level at which a company would place a new order for a stock
of raw materials for production whereas the reorder quantity is the number of units
(or quantity of material) that should be included in the new order.
Why are stocks of raw materials maintained?
Stocks of raw materials are kept because they are used in manufacturing. It is crucial
that there are no stock-outs, or the manufacturing would have to stop. This would be
a major problem for manufacturers operating continuously as it would cost a great
deal to stop manufacturing and create a situation where there would be no sales
income but costs (fixed costs in particular) would continue to be incurred.

8
Part (b)
(a) Carry out an ABC analysis.
Table of ABC analysis for the Toys Department
Unit
Prod Annua Cumulativ Annual Cum.
cos Deman Categor
. l Use e annual use as a percentag
t d y
Line (£s) use (£s) (%) e (%)
(£s)
16500
T1 55 3000
0 165000 45.70 45.70 A
T2 50 1000 50000 215000 13.85 59.55 A
T3 15 3000 45000 260000 12.46 72.01 A
T4 20 2000 40000 300000 11.08 83.09 A
T5 50 600 30000 330000 8.31 91.40 B
T6 100 100 10000 340000 2.77 94.17 B
T7 25 300 7500 347500 2.08 96.25 B
T11 3 500 8000 355500 2.22 98.46 C
T9 5 400 2000 357500 0.55 99.02 C
T8 5 350 1750 359250 0.48 99.50 C
T10 1 1000 1000 360250 0.28 99.78 C (or D)
T12 2 400 800 361050 0.22 100.00 C (or D)
(b) Determine the overall total of the stock keeping units stocked by the Toys
Department.
The total stock keeping units is 82 units
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.
(See next page)
(d) Critically evaluate the situation in the Toys Department and make some
recommendations to the company.
Product lines T1, T2, T3, T4 are ‘A’ category products accounting for 83% of the
costs and value per annum for the Toys Department.
Product lines T5, T6, T7 are ‘B’ category products and account for about 13% of the
costs and value per annum for the Toys Department.
Product lines T11, T9, T8, T10, T12 are ‘C’ category products and account for about
6% of the costs and value per annum for the Toys Department.
However, the T10 and T12 products only account for 0.28% and 0.22% of the costs
and value per annum and could reasonably be considered ‘D’ category product lines
which do not contribute significantly to the costs or sales of the Toys Department.
These products could reasonably be considered as candidates for deletion.
There are only 5 stock keeping units in T10 and T12 and this suggests that the
individual stock keeping units do not contribute significantly to costs or value for the
company and may be deleted from the stock list.

9
10
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.

Toys Department ABC Analysis

120.00
Natural breakpoints
100.00
Cu m u lative Valu e (% )

80.00 Potential 'D’

‘C’ category
category
products
60.00 ‘B’ category products
products
40.00 ‘A’ category
products
20.00

0.00
0 1 2 3 4 5 6 7 8 9 10 11 12 13

Number of Product Lines

The graph shows that there are some natural breakpoints at 5 product lines and 8
product lines, and these could have been used to categorise the ABC categories
instead of the current designations. However, this would not be the normal 80:20
rule. We should remember that the 80:20 rule is not necessarily applicable in all
cases especially where there are only a few product lines (or products). In this
instance there are only 12 product lines and so the 80:20 rule is not so easy to apply.
The potential ‘D’ category products are contributing very little to the costs and
probably offer little value for the company. These products could be deleted from the
stock keeping units list.

11
Question 4
Part (a)
What type of inventories do manufacturing companies have? Explain how these
inventories allow manufacturing companies to operate.
Part (b)
A retailing company has a menswear department which stocks a range of trousers of
various designs. The number of stock keeping units varies according to the table
below. Your job is to advise the company on how it can manage the stocks of
trousers.
Table 1. Men’s Trousers, Demand and Costs
Product Demand (Units SKUs in each
Unit cost (£s)
Line p.a.) Product Line
MT1 25 5500 6
MT2 26 2000 7
MT3 30 400 8
MT4 35 500 7
MT5 20 2500 6
MT6 45 6500 8
MT7 45 6250 7
MT8 50 1000 5
MT9 100 500 6
MT10 25 2000 6

Your job as the Operations Manager is to:

(a) Carry out an ABC analysis.
(b) Determine the overall total of the stock keeping units of trousers stocked by the
Menswear Department.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
costs.
(d) Critically evaluate the situation in the Menswear Department with respect to
men’s trousers and make some recommendations to the company.

12
Question 4. Answer
Part (a)
What type of inventories do manufacturing companies have? Explain how these
inventories allow manufacturing companies to operate.
Answer
Inventory: different types of inventories are maintained throughout the value chain,
before, during and after production to support operations and meet customer
demands. These are:
(i) Input Inventory: raw materials, component parts, subassemblies, and supplies
which are inputs to manufacturing and service delivery processes. Without these the
company cannot manufacture goods (and services)
(ii) Work in Progress (WIP): consists of partially finished products in various stages
of completion that are awaiting further processing. These are products which the
organisation has partially completed (Vonderembse and White, 1991). These are
often partially completed items which have little value for sale but cost the company
or organisation a lot of money in raw materials and the time to partially process the
item. If there is no control of work in progress or work in progress, then the company
may find that it has very high inventory costs and could find difficulties with cash
flow. In extreme cases where work in progress is not controlled in any way then the
company could find itself in serious financial difficulties. Work in progress and
inventory are bad for costs and damage the profitability of the company.
(iii) Finished Goods Inventory or Finished Goods Stock: are completed products
ready for distribution or sale to customers. Finished goods might be stored in a
warehouse or at the point of sale in retail stores. Finished goods inventory is
necessary to satisfy customers’ demands quickly without having to wait for a product
to be made or ordered from the supplier (Collier and Evans, 2017).
(iv) Repair and Replacement Parts: many manufacturers need to hold spare parts
for customers to repair and replace parts on products which require maintenance
and repair. While these might be considered to be partially processed products, they
are in fact an essential part of the after sales service for a manufactured item (e.g. a
washing machine or a motor vehicle). These replacement parts are a form of
inventory which is essential to maintain so that customers can be sure to be able to
repair and maintain their purchased products.
(v) Safety Stock Inventory: is an additional amount of input inventory, work in
progress, finished goods stock and repair and replacement parts that is kept over
and above the average amount required to meet demand or maintain the production
process. Customer demand is often highly variable and uncertain. Lack of sufficient
inventory can cause production lines to shut down or customers to become
dissatisfied waiting and purchase goods and services elsewhere. Many firms try to
reduce the risks of not having enough inventories by maintaining additional stock
beyond their normal estimates – this is known as safety stock.
(vi) Consumables: materials which are used in the process but do not form part of
the product. These can be disposable protective gloves, paper wipes, oil, rags,
cleaning materials, solvents for grease removal, abrasives, polishing and cutting
fluids etc. They are essential in manufacturing and some services (e.g. health care).

13
14
(a) Carry out an ABC analysis.
Table of ABC analysis for the Menswear Department Trousers Product Line
Unit Annual Cumulative Annual Cum.
Prod. Deman
cost Use annual use use as a percentage Category
Line d
(£s) (£s) (£s) (%) (%)
MT6 45 6500 292500 292500 29.46 29.46 A
MT7 45 6250 281250 573750 28.33 57.79 A
MT1 25 5500 137500 711250 13.85 71.64 A
MT2 26 2000 52000 763250 5.24 76.88 B
MT5 20 2500 50000 813250 5.04 81.92 B
MT8 50 1000 50000 863250 5.04 86.96 B
MT9 100 500 50000 913250 5.04 91.99 B
MT10 25 2000 50000 963250 5.04 97.03 B
MT4 35 500 17500 980750 1.76 98.79 C
MT3 30 400 12000 992750 1.21 100.00 C
(b) Determine the overall total of the stock keeping units of trousers stocked by the
Menswear Department.
There are 66 stock keeping units in the menswear department for trousers.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
costs.

Men's Trousers ABC Analysis

120.00

100.00
C u m u lative C o sts (% )

80.00

60.00 ‘C’ category

products
‘B’ category
40.00 products
‘A’ category
20.00 products

0.00
0 1 2 3 4 5 6 7 8 9 10

Number of Product Lines

(d) Critically evaluate the situation in the Menswear Department with respect to
men’s trousers and make some recommendations to the company.
Product lines MT6, MT7, MT1 are ‘A’ category products accounting for 71.6% of the
costs and value per annum for the Trousers Product Lines.

15
Product lines MT2, MT5, MT8, MT9, M10 are ‘B’ category products and account for
about 25.4% of the costs and value per annum for the Trousers Product Lines.
Product lines MT4 and MT3 are ‘C’ category products and account for approximately
3% (2.97%) of the costs and value per annum for the Trousers Product Lines.
The natural Breakpoints do not correspond exactly with the 80:20 Pareto rule but
they do look straight forward on the graph.

16
Question 5
Part (a)
What strategies can manufacturing companies use to deal with lumpy and seasonal
demand for its products?

Part (b)
A company manufactures and sells school uniforms and stocks several types of
jackets. The number of stock keeping units varies according to the table below.
The company is thinking of sewing and embroidering school logos on the jackets
before sending the jackets out for sale directly to schools. The company does not
have the capacity required to sew and embroider logos to order and would like to
make to stock. Thus, the company is thinking of sewing and embroidering the logos
on jackets and placing them in finished goods stock.
Your job is to advise the company on how it can manage the stocks of jackets and
jackets with logos already sewn or embroidered on.
Table 1. School Uniform (Jackets), Demand and Costs
Product Demand (Units SKUs in each
Unit cost (£s)
Line p.a.) Product Line
SU1 20 7500 8
SU2 25 9500 7
SU3 30 10000 6
SU4 35 750 8
SU5 40 1000 9
SU6 45 1500 10
SU7 50 13000 7
SU8 55 1800 8
SU9 50 700 6
SU10 42 800 7
SU11 44 200 9
SU12 33 200 8

Your job as the Operations Manager is to:

(a) Carry out an ABC analysis.
(b) Determine the overall total of the stock keeping units stocked by the School
Uniform company.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.
(d) Critically evaluate the situation in the School Uniform Company with respect to
the Jackets and make some recommendations to the company.

17
Answer
Part (a)
What strategies can manufacturing companies use to deal with lumpy and seasonal
demand for its products?
Lumpy and Seasonal Demand
Lumpy Demand (also referred to as intermittent demand): is a phenomenon
encountered in manufacturing or retailing when the items are slow-moving or too
expensive, for example fighter plane engines. Thus, the demand varies a good deal
and there are times in the year when demand is high and other times when demand
is low or negligible.
Seasonal Demand: is defined as a time series with repetitive or predictable patterns
of demand, due to re-occurring seasonal events. These patterns can re-occur over
days, weeks, months, or quarters and often make it harder for businesses to
accurately calculate demand forecasts. Aggregate Planning can be used to deal with
this problem and production rates can be increased or decreased to accommodate
seasonal changes in demand and avoid stock-outs at busy times and excessive
stock in the Finished Good warehouse in times of low demand.
Demand Planning: is a supply chain management process of forecasting, or
predicting, the demand for products to ensure they can be delivered and satisfy
customers. The goal is to strike a balance between having sufficient inventory levels
to meet customer needs without having a surplus.
Strategies
There are three main strategies for dealing with lumpy and seasonal demand. These
are:
Make to Order (MTO): the company only produces a product to customer orders.
Thus, the company buys in the raw materials to make a customer order. This
involves a delay (Lead Time) in providing the completed order to the customer. The
lead times may involve purchasing of raw materials, manufacturing lead times, and
delivery lead times all of which increase the time between placing an order and the
customer receiving the goods. Delays can result in cancelled orders and/or
customers going to other suppliers for their products.
Make to Stock (MTS): the company producers for inventory to meets customer
orders from inventory (finished good stock). Thus, the company has a finished goods
store where finished goods are stocked ready for immediate delivery to the customer
on the receipt of an order. The stock keeping costs need to be balanced with the
rapid fulfilment of an order (which might be an order-winning criterion). Keeping high
stock (or inventory) levels is costly but delays to customers may result in cancelled
orders and customers going elsewhere.
Assemble to order (ATO): The company only assembles the final product when an
order is received from a customer. Thus, the company holds a quantity of pre-
assembled sub-assemblies and only assembles the final product when it is
necessary to do so. This is useful when a customer order contains standard items
which can be combined to make a customised special item (e.g. computers may be
specified by a customer for size of RAM, size of hard disc, and features such as
external disc drives, number of USB ports, other hardware and software).

18
Part (b)
(a) Carry out an ABC analysis.
Table of ABC analysis for the School Uniforms (Jackets)
Unit Annual Cumulative Annual Cum.
Prod. Deman
cost Use annual use use as a percentage Category
Line d
(£s) (£s) (£s) (%) (%)
SU7 50 13000 650000 650000 39.29 39.29 A
SU3 30 10000 300000 950000 18.14 57.43 A
SU2 25 9500 237500 1187500 14.36 71.78 A
SU1 20 7500 150000 1337500 9.07 80.85 A
SU8 55 1800 99000 1436500 5.98 86.84 B
SU6 45 1500 67500 1504000 4.08 90.92 B
SU5 40 1000 40000 1544000 2.42 93.34 B
SU9 50 700 35000 1579000 2.12 95.45 B
SU10 42 800 33600 1612600 2.03 97.48 B
SU4 35 750 26250 1638850 1.59 99.07 B (or C)
SU11 44 200 8800 1647650 0.53 99.60 C
SU12 33 200 6600 1654250 0.40 100.00 C
(b) Determine the overall total of the stock keeping units stocked by the School
Uniform company.
There are 93 stock keeping units for the School Uniform Jackets. High values can
indicate a source of complexity for an organisation and may indicate a lot of ‘C’
category products.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.

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 School Uniforms (Jackets) ABC Analysis
120.00

100.00
C u m u lati ve (% )

80.00

60.00
‘C’
‘B’ category
cat-
products
40.00 egory
‘A’ category produc
products ts
20.00

0.00
0 1 2 3 4 5 6 7 8 9 10 11 12

Number of Product Lines

(d) Critically evaluate the situation in the School Uniform Company with respect to
the Jackets and make some recommendations to the company.
Product lines SU7, SU3, SU2 and SU1 are ‘A’ category products accounting for
80.85% of the costs and value per annum for the Jackets Product Lines. This is
almost perfect for pareto analysis but not ideal for the category B products.
Product lines SU8, SU6, SU5, SU9, SU10 are ‘B’ category products and account for
about 16.63% of the costs and value per annum for the Jackets Product Lines.
Product lines SU11 and SU12 are ‘C’ category products and account for
approximately 0.93% of the costs and value per annum for the Jackets Product
Lines.
The natural Breakpoints do not correspond exactly with the 80:20 Pareto rule but
they do look similar on the graph.
Guidelines on ABC Analysis
For example, as a guide in general terms, 80% of sales comes from 20% of a
company’s products (‘A’ category). Here it is 33% of the product lines which
generate 80.85% of the sales. Greater detail can be found by looking at the number
of stock keeping units. Here we have 28 stock keeping units in category ‘A’ products
which is 30% of the total stock keeping units (of 93).
Some 15% of sales comes from about 30 to 50% of the products (‘B’ category
products). Here it is 41% of sales comes from 41% of the product lines. Again,
greater detail can be found by looking at the number of stock keeping units. Here we
have 48 stock keeping units in category ‘B’ products which is 51.6% of the total stock
keeping units (of 93).
Some 5% of sales comes from 30 to 40% of the products (‘C’ category products).
Any that do not sell well in ‘C’ categories are essentially generating little income but

20
incur purchase costs and stock holding costs (e.g. in a warehouse) and may be
products which can be usefully deleted from the product range offered. Again,
greater detail can be found by looking at the number of stock keeping units. Here we
have 17 stock keeping units in category ‘C’ products which is approximately 18.3%
of the total stock keeping units (of 93). These figures in this example are not very
close to the ideal Pareto 80:20 rule.
Question: The company is thinking of sewing and embroidering school logos on the
jackets before sending the jackets out for sale directly to schools. The company does
not have the capacity required to sew and embroider logos to order and would like to
make to stock. Thus, the company is thinking of sewing and embroidering the logos
on jackets and placing them in finished goods stock.
Answer: This is only a good idea for products which turnover quickly (‘A’ category
products) and have regular orders for a particular school. The ‘B’ category products
school logos can be sewn on to order. There is no point in sewing any logos on ‘C’
category products as these products’ turnover very slowly. The risk here is that any
logos sewn on in advance may well not sell if a particular school does not order
those products and the products cannot be sold to another school with the wrong
logo(!). Therefore, sewing on logos would have to be justified by a good forecast of
demand from a school (or a real order in advance) before sewing on any logos.
Schools also have a bad habit of changing logos each year with students competing
for the best design of logo (unlike traditional British schools which always retain the
same logo and motto always).
Question 6
Part (a) What is ABC analysis used for? What are the advantages and
disadvantages of ABC analysis?

Part (b)
An agricultural supplies company maintains stocks of a wide range of products such
as fertilisers, soil improvers (e.g. sand), fencing and fixtures, storage vessels etc., for
farmers in a busy agricultural area. The product lines are shown in the table below.

Table 1. Agricultural Supplies, Demand and Costs

Product Average Unit Demand (Units SKUs in each
Line cost (£s) p.a.) Product Line
AG1 1000 1000 6
AG2 200 2000 8
AG3 300 3000 7
AG4 100 3500 9
AG5 100 2500 5
AG6 150 200 6
AG7 1500 50 7
AG8 1800 100 4
AG9 80 40 5
AG10 11000 100 8
AG11 12000 1000 10

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 AG12 1750 500 4
Your job as the Operations Manager is to:
(a) Carry out an ABC analysis.
(b) Determine the overall total of the stock keeping units stocked by the agricultural
supplies company.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.
(d) Critically evaluate the situation in the Agricultural Supplies and make some
recommendations to the company.

22
Question 6 Answer
Part (a) What is ABC analysis used for? What are the advantages and
disadvantages of ABC analysis?
What is ABC analysis used for?
In materials management, ABC analysis is an inventory categorization technique.
ABC analysis divides an inventory into three categories, for example, "A items" with
very tight control and accurate records, "B items" with less tightly controlled and
good records, and "C items" with the simplest controls possible and minimal records.
The ABC analysis also provides a mechanism for identifying items that will have a
significant impact on overall inventory cost, while also providing a mechanism for
identifying different categories of stock that will require different management and
controls. The ABC analysis suggests that inventories of an organization are not of
equal value. Thus, the inventory is grouped into three categories (A, B, and C) in
order of their estimated importance.
'A' items are very important for an organization because they generate the most
income when sold and cost the most when purchased. Because of the high value of
these 'A' items, frequent value analysis is required. Also, an organization needs to
choose an appropriate order pattern (e.g. 'just-in-time') to avoid excess stock holding
which can be costly. 'B' items are important, but of course less important than 'A'
items and more important than 'C' items. These ‘B’ items are usually of lower selling
price and lower purchase price than ‘A’ items and generate less sales income than
‘A’ items in general. Therefore, 'B' items are intergroup items. The 'C' items are
marginally important, are of low cost to purchase and generate lower income for the
business when sold but they do incur storage costs like ‘A’ and ‘B’ items.
Some organizations carry stock which could be categorized as ‘D’ items or even ‘E’
items as the stock maybe old, have little customer demand, stock turnover is very
slow, and these items could be a burden on the organization because the
stockholding costs outweigh any income generated when these items are sold.
Unless there is some special reason to maintain these items in stock (e.g. essential
components for the company to maintain their own equipment or their customers
equipment or some other special reason), then these stock items are candidates for
deleting from the range products offered for sale. This is especially so after selling
the last item; here the decision to purchase the item to restock is part of the ABC
analysis and usually the decision would be not to restock the item and let another
supplier stock the item. Noting that another supplier may well be a wholesaler with a
greater stock turnover on these particular products.
What are the advantages and disadvantages of ABC analysis?
Advantages: An ABC analysis puts items into categories that show the amount of
effort worth spending on inventory control. This is the standard Pareto Analysis or
the ‘80/20 rule’, which suggests that 20 per cent of inventory items need 80 per cent
of the attention, while the remaining 80 percent of items need only 20 per cent of the
attention. ABC analysis defines:
 A items as expensive and needing special care
 B items as ordinary ones needing standard care
 C items as cheap and needing little care

23
Disadvantages: it is not very clear where the boundaries are between categories
and it may assist in making the wrong decisions. Also, the situation changes as the
market demand changes and calculations and decisions need to be taken at regular
intervals.
Part (b) (a) Carry out an ABC analysis.
Table 1. ABC Analysis of Agricultural Supplies
Unit Cumulativ Annual
Prod. Deman Annual Cum.
cost e annual use as a Category
Line d Use (£s) (%)
(£s) use (£s) (%)
AG11 12000 1000 12000000 12000000 69.92 69.92 A
AG10 11000 100 1100000 13100000 6.41 76.33 B
AG1 1000 1000 1000000 14100000 5.83 82.15 B
AG3 300 3000 900000 15000000 5.24 87.40 B
AG12 1750 500 875000 15875000 5.10 92.49 B
AG2 200 2000 400000 16275000 2.33 94.82 B
AG4 100 3500 350000 16625000 2.04 96.86 B
AG5 100 2500 250000 16875000 1.46 98.32 B
AG8 1800 100 180000 17055000 1.05 99.37 B
AG7 1500 50 75000 17130000 0.44 99.81 C
AG6 150 200 30000 17160000 0.17 99.98 C
AG9 80 40 3200 17163200 0.02 100.00 C
(b) Determine the overall total of the stock keeping units stocked by the agricultural
supplies company.
There are 79 stock keeping units for the Agricultural Supplies. High values can
indicate a source of complexity for an organisation and may indicate a lot of ‘C’
category products.
(c) Draw a graph of the Number of Product Lines versus Cumulative Percentage
Use.

24
 Agricultural Products
120.00

100.00 ‘A’ category

C u m u lative % C o sts

products (1
80.00 product)

60.00 ‘B’ category ‘C’ category

products products
40.00

20.00

0.00
0 1 2 3 4 5 6 7 8 9 10 11 12

Number of Product Lines

(d) Critically evaluate the situation in the Agricultural Supplies and make some
recommendations to the company.
Product lines AG11 is probably the only ‘A’ category product accounting for 69.92%
of the costs and value per annum for the Agricultural Supplies product lines.
Product lines AG10, AG1, AG3, AG12, AG2, AG4, AG5 are ‘B’ category products
and account for about 29.45% of the costs and value per annum for the Agricultural
Supplies Product Lines.
Product lines AG7, AG6, AG9 are ‘C’ category products and account for
approximately 0.63% of the costs and value per annum for the Jackets Product
Lines.
There is a very large number of B category product lines and very few A category
product lines.

25