When you’re managing business inventory, there are different strategies you can use in order to keep things organized, distill key insights, and make tactical decisions. One common strategy is ABC analysis, which is a method of inventory management which allows you to easily determine the priority of items, and the value they have to your business. These takeaways are critical, because they let you know which items are of most importance to your operations, and how to best balance your inventory to avoid stockouts of critical items, while reducing unnecessary holding costs.
Whether you’re already using ABC analysis and want to take better advantage of this system, or you want to transition from another inventory management system, here’s everything you need to know about using ABC analysis in your organization, including best practices for deployment.
An ABC analysis strategy determines which inventory items are most essential based on their overall importance to the business, giving higher priority to the items that are essential to have on hand, and less to items that may not prove as essential in the long run.
Each business decides on how many classification levels it wants to give its inventory. For example, you might have five levels of classification, which run from A to E in importance, or you might choose to use a simple three-tiered A-C classification system. Items which are higher up in the classification are of the most importance to your business, while items further down are less integral to your operations.
Suppose, for example, that you choose to use the A-C system. “Class A” items would include items of the highest importance for your inventory: the items that you sell the most often.. “Class B” items would be slightly less vital, but, in some cases, still very important to the business. “Class C” items, on the other hand, might be less essential to overall customer satisfaction or business operation.
ABC analysis is a useful inventory management technique because of the unique way it provides insight into your inventory. It’s a method of clearly understanding which items in your inventory matter the most to your operations, as well as to your customers. Ultimately, this system helps businesses best optimize inventory and make data-backed decisions.
For an example, let’s look at items in your A category, which are most in-demand by customers. If you have stock outs or long lead times with this inventory, customers might become dissatisfied, and might even need to purchase their inventory from another business. When using ABC analysis, you’ll know which inventory to prioritize, and can take steps to ensure that these items are stocked accordingly.
ABC analysis is a strategy that can translate to tangible business outcomes by impacting both internal operations and the customer experience. For example, research shows us that addressing stocking issues can lead to a 10% reduction in inventory costs, and that 72% of customers will increase purchase levels when they’re satisfied with the delivery service.
ABC analysis functions by assigning value/priority to different items in your inventory. One common way of determining this is to assess the financial value of an item, or how much of a dollar value it’s worth to your business (based on total customer consumption).
The criteria for categorizing items in ABC analysis are typically based on the following:
These figures aren’t set in stone, and can vary from business to business.
What are some examples of what items in each category might look like? They can include:
Understanding these categories and assigning items appropriately is fundamental for businesses seeking to implement ABC analysis effectively.
ABC analysis for inventory management has several key advantages..
When you know what your highest-value items are (especially if they are different from the highest-volume items) you can focus your efforts more strategically. For example, if you are struggling with potential supply chain shortages or other challenges, you will know where you need to allocate potentially limited resources to the greatest effect.
By regularly conducting ABC analyses of your inventory and products, you may find that you’re able to more effectively determine where your inventory is in its overall product lifecycle and produce better inventory forecasts
Is a product growing in importance? Declining? By keeping a close eye on those changes over time, you can shift your inventory to meet the changing needs of your customer base, whether that means keeping more of an item on hand as it grows or nears maturity, then decreasing your overall inventory when demand for the product begins to decline.
You may have limited warehouse space for storing your inventory, or limited space for storing inventory at a particular location. With ABC analysis of your stock, you can effectively optimize your inventory, making more room for the items that are of the highest value to your customers and your business while decreasing the space dedicated to items that are less important.
Inventory optimization can be increasingly important when dealing with supply chain challenges or short warehouse space, both of which can force you to focus on the areas that are most important to your business.In many cases, inventory optimization can also help significantly with warehousing costs. Since you can optimize your inventory based on your priorities, you can often decrease warehousing space and expenses for items that are less important to your business.
Your ABC analysis allows you to prioritize the inventory that is of the highest value to your business. The Pareto Principle suggests that approximately 80% of the results for many scenarios, including business success, will come from around 20% of your efforts. In many cases, around 80% of your results may come from those Category A items in your inventory. By focusing on those items, including offering additional protection around the highest-value items or focusing on ensuring that you have a steady flow of stock for those items, you may find your business outcomes improving.
The ABC analysis system makes it much easier to simplify overall inventory management. Often, inventory managers can have a hard time determining what items they most need to prioritize or when they need to bring in more of a certain type of item. With the ABC analysis method, on the other hand, many inventory managers find that they can more clearly identify exactly the items they need to focus on.
The items that have the highest value for your business are often the ones that have the greatest overall value for your customers. Your ABC analysis allows you to focus on keeping those critical items in stock, which means you will be in the ideal position to provide a higher, more efficient level of customer service to your customers.
As you conduct your ABC analysis of your inventory, you can keep a closer eye on the overall demand for your products. As demand increases for a specific product type, you may find that you can increase your pricing and generate additional profit. As demand starts to wane, on the other hand, you may want to adjust your pricing to help you clear outer extra inventory.
Using the right system for your inventory management is critical. With Stock IQ, you can more effectively manage and track your inventory, keeping up with sourcing, available warehouse space, need for specific items, and more.
ABC analysis is a powerful inventory management strategy, yes. But in order to properly execute it, you need robust data, insights, and information into your inventory. For that, you can turn to StockIQ.
StockIQ’s comprehensive supply chain planning software provides you with demand forecasts, replenishment planning tools, and advanced inventory analytics, so you can increase visibility into your operations, and make data-informed decisions which take your business to new heights.
Contact us today to learn more about how we can help you improve your inventory management strategies.
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