Jerremy Acebu

Inventory Classification
System
Inventory items are not of equal importance in terms of
dollars involved, profit potential, sales or usage volume,
or stockout penalties
Example : Producer of Electrical Equipment
 Inventory carried includes generators, coils of wire,
and miscellaneous nuts and bolts among other items
in stock
 Unrealistic to devote equal attention to each of these
items
 Instead, a more reasonable approach would be to
allocate control efforts according to the relative
importance of various items in inventory
A-B-C approach classifies inventory items according to some
measure of importance, usually dollar usage (i.e. dollar value per unit
System
ABC Analysis divides on-hand inventory into
three classif ic ations on the basis of annual
dollar value.
 It is an inventory application of the Pareto principle
which states that there are a “critical few and trivial
man.”
 Idea is to establish inventory policies that focus
resources on the few critical inventory parts and not
the many trivial ones.
 It is not realistic to monitor inexpensive items with
the same intensity as very expensive items.
System
ABC Classification
 Annual dollar volume = annual demand x cost per
unit
 Dollar volume is a measure of importance; an item
low in cost but high in volume can be more important
than a high-cost item with low volume.
 Typically three (3) classes of items are used: A (very
important), B (moderately important), and C (least
important)
 The actual number of categories may vary from
organization to organization, depending on the extent
to which a firm wants to differentiate control efforts.
System
ABC Classification
 Class A items generally account for about only 15% to
20% of the number of items in inventory but represent
70% to 80% of the total dollar usage
 Class C items may represent only 5% to 10% of the
annual dollar volume but about 55% to 60% of the total
inventory items
 Class B items are those inventory items with medium
annual dollar volume, about 15% to 20% of the total
value representing about 30% of the the number of
inventory items
 Perc entages vary fro m f ir m to f ir m, but in mo st
instances a relatively small number of items will
a c c o unt fo r a l a rge sha re o f t he v a l ue o r c o st
System
ABC Classification
 Class A items should receive a close attention through
frequent reviews of amounts on hand and control over
withdrawals.
 Class C items should receive only loose control (two-
bin system, bulk orders).
 Class B items should have controls that lie between A
& C.
 Class C items are not necessarily unimportant ;
incurring a stock out of C items such as the nuts and
bolts used to assemble manufactured goods can
result in a costly shutdown of an assembly line (due to
low annual dollar volume, larger orders or ordering in
advance will help without incurring much additional
Steps To Solve An A-b-c
Problems
Find out the unit cost and the usage of each material over
a given period.
Multiply the unit cost by the estimated annual usage to
obtain the net value.
List out all the items and arrange them in the descending
value. (Annual Value)
Accumulate value and add up number of items and
calculate percentage on total inventory in value and in
number.
Draw a curve of percentage items and percentage value.
Mark off from the curve the rational limits of A, B and C
System
ABC Calculation
Example
(1) (2) (3) (4) (5) (6) (7)
PERCENT
OF PERCENT OF
ITEM NUMBER ANNUAL ANNUAL ANNUAL
STOCK OF ITEMS VOLUME UNIT DOLLAR DOLLAR
NUMBER STOCKED (UNITS) x COST = VOLUME VOLUME CLASS
1 20% 1,000 $ 90.00 $ 90,000 38.8% A
2 500 154.00 77,000 33.2% A
3 1,550 17.00 26,350 11.3% B
4 30% 350 42.86 15,001 6.4% B
5 1,000 12.50 12,500 5.4% B
6 600 $ 14.17 $ 8,502 3.7% C
7 2,000 .60 1,200 .5% C
8 50% 100 8.50 850 .4% C
9 1,200 .42 504 .2% C
10 250 .60 150 .1% C
8,550 $232,057 100.0%
Percentage of annual dollar usage
System
A Items
80 –
70 –
60 –
50 –
40 –
30 –
20 – B Items
10 – C Items
0 – | | | | | | | | | |
10 20 30 40 50 60 70 80 90 100
Percentage of inventory items
Some of the benefits of
using ABC classification
Manage the goods in the inventory in a proper manner

You get to have a thorough knowledge about the amount
and quantity of goods that might be needed
You will be able to prioritize the importance of goods that
are need in the production process.
You will be able to id entify the items that make a
significant impact to the whole of the production process
You will understand the true nature of the quality and
quantity of the goods used in the production process.

Jerremy Acebu

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Inventory Classiﬁcation

Manage the goods in the inventory in a proper manner

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