ABC analysis and other inventory models

Presented ByAnurag Bhardwaj (07320)

Mayank Sharma (07321)

Inventory management techniques

• Effective inventory management requires the understanding and knowledge of the nature of inventories and for this purpose, there are some models– ABC analysis– HML analysis– XYZ analysis– VED analysis– FSN analysis

Classification of inventoriesTechnique Basis Main Use

ABC (always better control)

Value of Conception To control raw materials, components and WIP inventories in the normal course of business

HML (high, medium, low)

Unit price of the material

Mainly to control purchase

XYZ Value of the items in storage

To review the inventories and their uses at scheduled intervals

VED (Vital, essential, desirable)

Criticality of the component

To determine the stocking level of spare parts

FSN (Fast moving, slow moving, non moving)

Consumption of pattern of the components

To control Obsolescence

SDE (Scarce, difficult, easy to obtain)

Problems faced in procurement

Lead time analysis and purchasing analysis

SOS (seasonal, off seasonal)

Nature of supplies Procurement/holding strategies for seasonal items

ABC ANALYSIS• One of the most important considerations of control is the

value of annual consumption of inventory items in a year.

• Only a small number of inventory items consume a very large share of inventory consumption during the year.

• A little larger number of inventory items covers a moderate share of annual inventory consumption.

• A very large number of items just cover a very small share of annual inventory consumption.

• These facts gave birth to the concept of ABC analysis.

Quantitative analysis• It has been observed that in an industrial unit only 10% of items

have 70% of the annual inventory consumption,

• 20% of the items have 20% of annual inventory consumption. • 70% of the items have only 10% of the annual inventory

consumption.• Since 70% of the annual consumption of inventory is covered by

only 10% of the items in the inventory, these items deserve highest attention and are classified as ‘A’ items.

• Similarly 20% of the items covering 20 % of the inventory investment are B class items

• Balance 70% of the inventory items are termed as C class items.

MethodologyThe steps in computing ABC analysis are: a Determine the annual usage in units for each item for the past

one-year.b. Multiply the annual usage quantity with the average unit price of

each item to calculate the annual usage for each item.c. Item with highest capital usage annually is ranked first. Then the

next lower annual usage item is listed till the lowest item is listed in the last.

d. Table 1 shows ranks of the items according to the annual usage for 10 items.

e. Arrange the items in the inventory by cumulative annual usage and by cumulative percentage. Categorize the items in A, B , and C categories.

Determination of rank by annual usageItems Average Usage

(Units)Unit cost (Rs) Annual Usage (Rs) Rank

1 17 2.5

2 50 17

3 15 15

4 25 17

5 5 17

6 50 119

7 153 5

8 20 2.125

9 16 2.656

10 17 2.5

Determination of rank by annual usageItems Average Usage

(Units)Unit cost (Rs) Annual Usage (Rs) Rank

1 17 2.5 42.5

2 50 17 850

3 15 15 225

4 25 17 425

5 5 17 85

6 50 119 5950

7 153 5 765

8 20 2.125 42.5

9 16 2.656 42.5

10 17 2.5 42.5

Determination of rank by annual usageItems Average Usage

(Units)Unit cost (Rs) Annual Usage (Rs) Rank

1 17 2.5 42.5 8

2 50 17 850 2

3 15 15 225 5

4 25 17 425 4

5 5 17 85 6

6 50 119 5950 1

7 153 5 765 3

8 20 2.125 42.5 7

9 16 2.656 42.5 9

10 17 2.5 42.5 10

Categorizing items in ABC rankingItem # Annual

usage (in rs.)Cumulative

annual usage (Rs.)

Annual usage %

Category assigned

6 5950 5950 70 A

2 850 6800 80 B

7 765 7565 89 B

4 425 7990 94 C

3 225 8245 97 C

5 85 8330 98 C

8 42.5 8372.5 98.5 C

1 42.5 8415 99 C

10 42.5 8457 99.5 C

9 42.5 8500 100 C

Total 8500

Limitation of ABC analysis

• It doesn’t take into account the criticality of an item.

• It might be possible that item tagged in C category might be crucial for the functioning.

• So sometimes it is being implemented along with VED to overcome this issue.

HML analysis

• This classification is based on unit value of an item.• Further classified as high, medium and low valued items.• Items are listed out in descending order of unit value and

management then decides the limits for determining 3 categories.

• Delegation of authorities is done for sanctioning of items according to their values.

XYZ analysis• It is based on the volume of inventory stored.• X items are with high and Z are those whose inventory

stock are low.• Y are those which have moderate inventory stocks.• Helps identifying items for which huge amount is locked up

in stock and hence can be reduced.• XYZ can be combined with ABC analysis as given below

Class of items

A B C

X Efforts to be made to reduce stocks to Z

Efforts to be made for reducing upto Y

Steps to be taken for disposing surplus stocks

Y Efforts to convert into Z category

- Control may be further tightened

Z - Stocks level may be reviewed twice a year

-

VED analysis

• Popularly known as Vital, essential and desired analysis for the control of spare parts.

• Vital items have extreme criticality, desirable items are not critical and desirable items lie in between.

• Non availability of ‘vital’ spare parts even for short period leads to stoppage of production and ‘stock out’ costs are high.

• Ensuring availability of such vital parts.

FSN analysis

• Rate of movement of material in store and consumption pattern forms the basis of classification.

• Necessary to control obsolescence• The demand for fast moving items is very high, so there

shouldn't be shortage of items.• Slow moving items are with low turnovers so these are not

issued at frequent intervals.• Items with nil consumption come under non moving such

as obsolete inventory.

SDE analysis

• Done on the basis of problem faced in the procurement of the items.

• Three letters stand for Scarce, difficult and easy to obtain.

• Adopted by purchase department to determine the method of buying and to fix the responsibilities of the buyer.