English - UK

WHY EAZYSTOCK? SOFTWARE RESOURCES ABOUT US BLOG NEWSLETTER SIGNUP

How to calculate ABC classification – a

working example

< BACK TO BLOG HOME TOPICS Search

Peter Drakeley    10 June 2019 4 min read

What's in this article?

1. Calculating ABC inventory classification

2. What is ABC classification of inventory?

3. ABC inventory classification – an example

By clicking "Allow All", you agree to the storing of cookies on your device to enhance site navigation, analyse site usage, and assist in
our marketing efforts. Cookie Notice 4. How to put your ABC classification data to good use Customize Settings Reject All Allow All

5. From ABC classification calculations in excel to automation

Calculating ABC inventory classification

In this post we’re going to discuss how you can practically classify your inventory into three ABC
categories, using a working ABC classification example. We’ll then show you how to take things one step
further by introducing the concept of XYZ analysis.

But first, here’s a quick reminder of what ABC classification is:

What is ABC classification of inventory?

ABC classification is used by inventory management teams to help identify the most important products
in their portfolio and ensure they focus on managing them above those less valuable. Using ABC
classification inventory is divided into three categories, A (most important), B (fairly important) and C
(least important).

Category A: this is the smallest category and consists of the most important stock items
Category B: will generally be slightly larger in terms of volumes of SKUs and will usually be made up of
products of less value
Category C: this will typically be the largest category where products will contribute the least to your
businesses bottom line.

The ABC inventory classification framework, or ABC analysis, is based on the theory that all inventory is
not of equal value. Instead it follows the Pareto Principle, where 20% of stock accounts for 80% of the
value to the business. Your inventory’s ‘value’ can be defined based on a number of criteria, such as
annual sales revenue, profitability or annual consumption value.

The graph below illustrates how 80% of a company’s sales revenue comes from 20% of their stock items.

ABC classification & The Pareto Rule for inventory management

ABC analysis is important because it helps you prioritise what stock items to carry to help fulfil demand
or meet your inventory service level targets.

ABC inventory classification – an example

Here is a working example of ABC classification, showing how to divide up your inventory, using annual
consumption value.

We’re going to use Sam’s Stationery business as the example:

1. Use the formula ‘annual number of units sold x cost per unit’ to
calculate the annual consumption value of each item

Annual number of units sold (per item) x cost per unit

2. List your products in descending order, based on their annual

consumption value

3. Total up the number of units sold and the annual consumption

value

4. Calculate the cumulative percentage of items sold and

cumulative percentage of the annual consumption values

5. Determine the thresholds for splitting the data into A, B and C

categories. The threshold for determining the ABC split will be
unique to your company and your product mix, but typically it’s
close to 80% / 15% / 5%.

How to put your ABC classification data to good

use
With the calculations complete, you can use your final data to review how you currently manage the
inventory in each category. If you find that you’re treating all items the same, in terms of the stock you
hold and the purchases you make – regardless of their category – then you’re most likely to have
inefficient inventory policies. This means you’re probably over and under ordering on many product lines.

The good news is that there’s plenty of room for improvement! And this will bring about reduced storage,
delivery and management costs.

Good practice is to adapt your purchasing and inventory policies for each group. This could include
setting up sophisticated ordering processes for all A items, such as checking every purchase order and
spending more time discussing lead times with suppliers to guarantee best value and timely deliveries.

In contrast, C items should take up much less of your time and could be ordered automatically to save
valuable human resource.

From ABC classification calculations in excel to

automation
ABC classification is a simple framework that allows you to categorise your inventory based on its value.
You can then prioritise what to stock and how to manage your time, so you can focus on your most
important products. However, the model does have its drawbacks.

For starters it’s one-dimensional, so can only use one factor to evaluate and categorise products. For a
more advanced classification framework that is still possible to carry out in excel, you could consider
ABC XYZ analysis. This introduces the concept of forecastability, e.g how easy it is to forecast the
demand for an item, based on its variability of demand. ABC XYZ analysis therefore allows you to
segment items based on their value AND forecastability, again improving your stocking policies and
inventory management processes.

ABC classification and XYZ analysis both still have a glaringly obvious limitation – they are manual
processes, taking up value time and quickly becoming out-of-date. Some some enterprise resource
planning (ERP) systems or inventory management software solutions can provide basic inventory
classification functionality, often inventory planners will use excel spreadsheets for such calculations.
This can lead to classification models quickly becoming out of date. Products can rapidly move between
categories as their sales rise and fall. Updating calculations once a quarter, or even every month can be
very time consuming. Unfortunately, as soon as your spreadsheet is completed it will begin to go out-of-
date.

The answer is to use an inventory optimisation tool to automate the process. Software, such as
EazyStock will allow you to categorise your inventory based on multi-dimensional criteria including
demand, sales frequency, number of picks, and annual consumption value.

By automating your inventory classification process, you can be sure that it stays up-to-date with re-
classifications taking place daily, so products are always managed according to the most relevant
inventory policy.

For more information on EazyStock or to book a demo click here.

Originally published 01 Dec 2014 – updated June 2019

Share

Tags: Blog, Inventory Optimisation

Related posts

ABC XYZ inventory analysis and Selecting the right inventory The importance of ABC analysis

Sign up for the EazyStock Newsletter

Stay on Top of the Latest News, Trends, Tips, and Best Practices for

Supply Chain Management, Inventory Optimisation, Replenishment &

Purchasing, and Demand Forecasting with Our EazyStock Newsletter.

Contact Us SOCIAL

+44 121 312 2992 Provided by Syncron UK Ltd

info@eazystock.com 2nd Floor, 3 Brindley Place
Birmingham B1 2JB

Why EazyStock? Partners Resources About Contact Us

Legal | Privacy Policy | Terms of Use | Cookie Notice

© 2021 Syncron AB and/or its affiliates. All rights reserved.