Mastering the ABCs of Product Classification: A Deep Dive into ABC Analysis


Inventory management poses a significant challenge for many businesses, especially when catering to diverse customer demands. One efficient inventory control method that companies can implement to manage their stocks more proficiently is the ABC analysis. This strategy categorizes inventory into three classes based on their contribution to revenue, enabling businesses to maximize returns from minimal investment without wasting resources or inventory.
The basic idea can also be fine-tuned with dividing the ABC inventory into 3 subcategories. For example Sniffie uses dynamic ABC-categorisation based on profitability where
- A represents ~20% of the products that bring most of the profit, B ~30%, C ~50%.
- Then A-products are divided into thirds as follows:
A1 = 0% - 6.7%, 
A2 = 6.7% - 13.4%,
A3 = 13.4 - 20%.
This way you can easily see what even in the group A-products are the most important from the profitability point of view.

Understanding the ABCs of Product Classification:

  • Category A: High-value items that generate about 80% of the revenue despite representing a small percentage of inventory.
  • Category B: Moderately valuable items that contribute about 15% of the revenue.
  • Category C: Low-value items that generate approximately 5% of the revenue but may constitute a significant portion of inventory.

Conducting ABC Analysis:

  • Calculate the annual consumption value of each product.
  • List products in descending order based on their annual consumption value.
  • Total the number of units sold and the annual consumption value.
  • Calculate cumulative percentages of units sold and consumption value.
  • Divide the data into the three ABC categories.

Benefits of ABC Analysis:

  • Analyzing customer demand for products.
  • Improving supplier negotiations.
  • Enhancing customer service.
  • Optimizing the manufacturing process.
  • Streamlining supply chain and warehouse management.
  • Understanding customer bases and target audiences across industries.

Limitations and Solutions:

One limitation of ABC analysis is that classifying all goods into three categories based on their value 

can be time-consuming. However, this issue can be mitigated by utilizing inventory optimization software to automate and streamline the process. Platforms like Deskera, for example, assist with inventory management, including ABC analysis, and various other business processes like accounting, customer relationship management, and HR management.

ABC analysis is a powerful tool for effective inventory management and maximizing return on investment. By understanding the value of each product and managing inventory accordingly, businesses can ensure efficient resource utilization and profitability. Despite its limitations, the benefits of ABC analysis make it an essential tool for optimizing inventory management in any business.

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