What is an ABC Analysis?

ABC analysis is a system of inventory classification that separates products into different categories based on priority and value. This system enables managers to easily identify important data, so they can react to trends and make merchandising adjustments more intuitively. The most important items are designated as A products; the second-most valued items are category B, and category C consists of low-priority goods.

How to do an ABC Analysis

The idea of ABC Analysis was first conceptualized by an Italian economist and sociologist, Wilfredo Pareto in 1987. He developed the system after realizing that demand is not distributed across inventory equally. Inventory addresses this issue by designating the items with the highest demand as article A, to illustrate their importance to revenues and denote the higher demand for these goods. There are several ways of determining which inventory items are classified into which category. The following classifications reflect Paretos original principles and, while sales volume and revenue are the primary concerns of this system, all factors should be taken into consideration to determine what works best for individual practitioners

• Article A: These are the most important items, and strict inventory control procedures should be in place for these products. Items should always be maintained in stock, and enhanced security procedures should be employed when storing these items.
• Article B: Products in this category lay between A and C items. This category often serves as a transitional point as demand fluctuates and items are reclassified.
• Article C: This category is for low-demand items that constitute only a small part of sales volume.

Each item will be afforded different treatment according to its classification. For example, article A items are placed in high-traffic areas of the store to make them more accessible to customers and the stock is maintained at all times. Article C items, conversely, are low-volume items and its common for businesses that employ the system to keep only one unit of article C items in stock at a time. This system allows managers to better employ their inventories for maximum revenues. There are obvious benefits to both merchandising and inventory management, as managers can easily determine which products need their foremost attention. 

Focusing on the more important, article-A items will funnel sales traffic and volume to your most in-demand inventory items. This enables a business to play to its strengths, nourishing the most successful parts of their business while wasting little time and effort on small-ticket or low-demand items. The system gives managers the ability to objectively make decisions regarding merchandising and demand. Classifying inventory in an ABC system also makes it easier to assess sales performance for your key items without diluting your sales figures with low-revenue, article-C sales. Managers can find their article-A sales figures when perusing reports and give those particular figures the majority of their attention.