PURCHASING MANAGEMENT

CHAPTER 3

Purchasing by ABC

Compile: Đinh Bá Hùng Anh PhD

Tel: 0347.077.055/090.9192.766
Mail: anhdbh@[Link]
 ABC analysis
Introduction

• The ABC inventory control system is a useful

tool to determine which inventories should be
counted more frequently and managed more
closely and which others should not.

• ABC analysis is often combined with the 80/20

rule or Pareto principle.

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 ABC analysis
Pareto principle

Pareto is a principle that helps to focus on the most important

matters to obtain the maximum benefits.

The Pareto principle can be applied to many businesses, especially

those based on customer service.

It can also be applied at the individual level. Time management is

the most common use of the Pareto Principle, as most people tend to
thinly spread out their time instead of focusing on the most important
tasks. CH3-2
 ABC analysis
Introduction

ABC Analysis classifies inventory items into three categories

based on their value and importance to the business:
- A (high-value items) - typically the most expensive and most
important
- B (medium-value items) - also important for the business’s
success, but not as much as A items
- C (low-value items) - are not as important for the business’s
success.

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 ABC analysis
“A” Items

- “A” items represent the most important items, accounting for about 70% -
80% of revenue value but only 10-20% of total product quantity.
To take full advantage of the benefits from “A” items, businesses need to
focus on managing and processing them effectively. The solutions below will
assist you in achieving this:
- Create a close relationship with product supplier A
- Determine the Reorder Point for product A
- Invest more in product A
- Increase the selling price for product A
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 ABC analysis
“B” Items

- “B” items include items of average importance, accounting for about

15-25% of revenue value and 30-40% of total product quantity. These
products have a significant impact on sales but not too much compared
to product A.
To manage and handle product B effectively, you should consider the
following solutions:
- Maintain stable inventory levels
- Monitor and evaluate effectiveness
- Look for opportunities to enhance / increase value
- Optimize the import and export process for product B CH3-1
 ABC analysis
“C” Items

- “C” items are the least important items, accounting for about 5-10% of revenue value and 50-60% of total
product quantity. They have a low impact on a business's revenue and profits, so their management needs to
be more flexible.
To manage and handle “C” items effectively, you should apply the following solutions:
- Discount or sell product C at a high discount
- Combine product C with product A or B to create attractive product packages
- Increase the visibility of product C in the store or on the website
- Offer product C as a gift to customers
- Donate product C to a charity organization
- Stop ordering and do not add product C to the warehouse
ABC analysis

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ABC analysis

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 ABC analysis
Advantages of ABC analysis

- It allows businesses to focus on the most important items.

- It helps businesses save money.

- ABC analysis provides businesses with greater control over their

inventory.

- It helps businesses make better decisions.

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 ABC analysis
Examples of ABC Analysis in Inventory Management

- ABC Analysis can be used in a variety of ways in inventory

management.
For examples,
- Fashion industry: Helps identify trends, forecast demand and
manage seasonal inventory.
- Electronics industry: Control inventory of components and high-
value products and devise effective pricing strategies.
- Food industry: Minimize perishable goods inventory and optimize
supply and raw material management. CH3-1
 ABC analysis
Challenges in Using ABC Analysis

- Does not take into account seasonal factors: ABC analysis does not analyze seasonal factors, which can
affect the accuracy of the analysis and the determination of the amount of inventory needed in the
warehouse.

- Does not take into account changes in consumer behavior and trends: ABC analysis does not factor in
changes in consumer behavior and trends, which can lose the accuracy of the analysis and business
decisions may not be appropriate for the current market.
 ABC analysis
Challenges in Using ABC Analysis

- Does not take into account new product launches: ABC analysis does not analyze factors in new product
launches, which can lose the accuracy of the analysis, and business decisions may not be appropriate with
new markets.

- Turnover ratio (revenue rate) is one of many important warehouse management indicators: Turnover
ratio is not a standalone warehouse management metric and needs to be combined with many other metrics
to make accurate warehouse management decisions.

- Valuable qualitative information: Qualitative information is also valuable and can help increase the
accuracy of business analysis and decisions.
 ABC analysis
Development of technology in various fields

- With the development of technology, new

technologies are being applied in many fields,
including the field of inventory management.

- Technologies such as Data Technology, IoT

Technology, AI Technology and 3D
Technology have been applied to optimize the
inventory management process, helping
businesses improve efficiency and save costs.
 ABC analysis
Development of technology in various fileds

In particular, 3D printing technology is being widely used to optimize the production process and
inventory management. With this technology, businesses can:

- Reduce inventory: 3D printing technology allows the production of goods directly at the point of use,
reducing time and costs of transporting goods and reducing inventory.

- Increase production efficiency: 3D printing technology allows the production of goods at a faster speed
and lower cost, reducing production time and costs.
 ABC analysis
Development of technology in various fields

- Reduce risks: 3D printing technology allows the production of goods with greater precision, reducing risks
arising during the production process.

- Optimize material management: 3D printing technology allows the production of goods according to
actual needs, reduces material waste and helps optimize material management.

- Optimize production processes: 3D printing technology allows the production of goods in a more flexible
way, meeting diverse market needs and helping to optimize production processes.
 ABC analysis

- In the field of automobile manufacturing,

BMW is one of the pioneering businesses in
using 3D printing technology to produce car
spare parts. Using 3D printing technology
helps BMW save production costs and
optimize the production process while
improving product quality.
 ABC analysis

- In the field of toy manufacturing, LEGO is

one of the businesses that uses 3D printing
technology to produce prototypes and molds
during the design process. 3D printing
technology helps LEGO save costs and time in
the production of new products.
ABC analysis
ABC Inventory Classification

Percent of Total Percent of Total

Classifications
Annual Dollar Usage Inventory Items
A items 80 20
B items 15 40
C items 5 40

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ABC analysis implementation
Begin
Step 1

Determine Quantity and Unit price Collect data

Step 2

Calculate Value Value = Quantity × Unit price

Step 3

Sort in descending order

Value ratio of each item
Calculate value ratio
Step 4

ABC subgroup A” C” the rest is B

End
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ABC analysis
Quantity and unit price of items
Item number % in stock Quantity Unit price ($)

#01036 50% 100 8.50

#01307 1.200 0.42

#10286 20% 1.000 90.0

#10500 1.000 12.5

#10572 250 0.60

#10867 30% 350 42.86

#11526 500 154.0

#12572 600 14.17

#12760 1.550 17.0

#14075 2.000 0.60

Total 8.550
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ABC analysis
Value of all items
Item number % in stock Quantity × Unit price ($) = Value per year

#01036 50% 100 8.50 850

#01307 1.200 0.42 504
#10286 20% 1.000 90.0 90.000
#10500 1.000 12.5 12.500
#10572 250 0.60 150
#10867 30% 350 42.86 15.001
#11526 500 154.0 77.000
#12572 600 14.17 8.502
#12760 1.550 17.0 26.350
#14075 2.000 0.60 1.200
#14075 2.000 0.60 1.200
8.550 232.057 $
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ABC analysis
Sort in descending order of value

Value per
Item number % in stock Quantity × Unit price = % Value / total
year
#10286 20% 1.000 90.0 90.000 38.8%
#11526 500 154.0 77.000 33.2%
#12760 1.550 17.0 26.350 11.3%
#10867 30% 350 42.86 15.001 6.4%
#10500 1.000 12.5 12.500 5.4%
#12572 600 14.17 8.502 3.7%
#14075 2.000 0.60 1.200 0.5%
#01036 50% 100 8.5 850 0.4%
#01307 1.200 0.42 504 0.2%
#10572 250 0.60 150 0.1%
Total 8.550 Total 232.057 100.0%
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ABC analysis
ABC subgroup
Quantit Unit Value per % Value /
Item number % in stock × = Group
y price ($) year total
#10286 20% 1.000 90.0 90.000 38.8% 72 A
#11526 500 154.0 77.000 33.2% % A
#12760 1.550 17.0 26.350 11.3% B
23
#10867 30% 350 42.86 15.001 6.4% B
%
#10500 1.000 12.5 12.500 5.4% B
#12572 600 14.17 8.502 3.7% C
#14075 2.000 0.60 1.200 0.5% C
#01036 50% 100 8.50 850 0.4% 5% C
#01307 1.200 0.42 504 0.2% C
#10572 250 0.60 150 0.1% C
8.550 232.057 $ 100% CH3-11
ABC analysis
Correlation between value and quantity

Group value/total (%) Group A

80 –
Group Value Quantity
70 – (%) (%)
60 – A 80% 15%
50 – B 15% 30%
40 – C 5% > 50%

30 –
20 – Group B
10 – Group C
0 – | | | | | | | | | |
10 20 30 40 50 60 70 80 90 100
Quantity ratio (%) CH3-12
ABC analysis policy

Purchasing policy for group A

 Careful production forecast
 Accurate ordering: order quantity and time
 Find more suppliers
 Small inventory cycle, large turnover ratio, fast delivery.

Purchasing policy for group C

 Large purchasing
 Large inventory cycles
 Reduce the number of suppliers

 Policy for group B is between A and C..

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 ABC analysis
Control Based on ABC Classification

Different controls used with different classifications:

• A items: high priority. Tight control including
complete accurate records, regular and frequent
review by management, frequent review of demand
forecasts, and close follow-up and expediting to
reduce lead time.
• B items: medium priority. Normal controls with
good records, regular attention, and normal
processing.
• C items: lowest priority. Simplest possible controls
make sure there are plenty. Simple or no records,
such as a two-bin system or periodic review system.
Order large quantities and carry safety stock. CH3-14
ABC analysis
Control Based on ABC Classification

Have plenty of low-value items

Use the money and control effort saved to reduce the

inventory of high-value items

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 ABC analysis
Counting cycle

In inventory management, it is necessary to establish periodic inventory

counts to confirm the coincidence of the amount of inventory recorded on the
books with the actual quantity.

Regular counting
COUNTING
METHODS
Periodic counting

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 ABC analysis
Counting cycle

The accuracy of inventory data is vital to business success because inventory

data directly impacts operation and results.

Cycle counting and periodic counting are both inventory count &
management methods used to maintain accurate inventory records, but they
differ in terms of their frequency and approach.

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Counting cycle

Cycle counting is a continuous process of verifying inventory accuracy by counting

a small subset of items on a regular basis, typically on a daily or weekly basis.

The items to be counted are selected based on a predetermined schedule, such as a

rotating schedule or a schedule that prioritizes high-value or high-risk items.

The goal of cycle counting is to identify and correct inventory inaccuracies in real-
time, rather than waiting for a full physical inventory count.

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Counting cycle

Periodic counting, on the other hand, is a periodic process of counting the entire
inventory at predetermined intervals, such as monthly, quarterly or annually.

This method involves shutting down operations for a period of time to count all
inventory items.

Periodic counting is typically more time-consuming and disruptive than cycle

counting, but it can provide a more complete view of overall inventory accuracy.
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How to Do Counting cycle
When developing a cycle counting program, first consider three main
inputs:

1) Number of SKUs (Stock-keeping units) - Determine how many

products, or stock-keeping units, you want to count at a time.

2) Available Counting Resources - This resource is dependent on the

number of available employees and how much time they can dedicate to
counting stock.

3) Counting Frequency - How often you count inventory depends on how

many SKUs you want to cycle count in the year.
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Inventory Cycle Counting Process
The steps to take during a cycle count are:

1. Review Records
You want to start with an accurate database. Begin the process by reviewing and correcting the
data entry on all inventory transactions.

2. Print or Upload a Cycle Count Report

Create a cycle count report. If you are using a mobile device to do the count, upload the report to
it.

3. Begin the Count

Counters should review the inventory locations, descriptions, and quantities from the report and
compare it to what is physically on the shelf.
 ABC analysis
Inventory Cycle Counting Process
4. Investigate and Reconcile
Identify any differences found during the count and reconcile them with the stock manager. Look
for patterns of errors.

5. Alter Procedures
Implement any inventory counting policies or procedures, if necessary.

6. Adjust Records
Make changes in the inventory record database to reflect what is on the shelf.

7. Calculate and Repeat

Audit inventory regularly and calculate the inventory accuracy percentage.
 ABC analysis
Inventory Cycle Counting Benefits
Because it doesn’t force companies to shut down operations and perform a full physical inventory count at
once, cycle counting has become a popular inventory management strategy for companies across all
industries. Other benefits include:
- Better customer service levels

- Higher sales

- More time between physical counts

- No employee overtime costs

- Fewer errors

- More effective operation process

 ABC analysis
ASSIGNMENT

BK Education Company has 5,000 items in stock, including 500 items in group A, 1,750 items
in group B and 2,750 items in group C. Items in group A have a monthly inventory cycle (20
working days). work), group B quarterly (60 working days) and group C every 6 months (120
working days). Calculate the quantity of each item that needs to be inventoried each day?

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ABC analysis
ASSIGNMENT

BK Education Company has 5,000 items in stock, including 500 items in group A,
1,750 items in group B and 2,750 items in group C. Items in group A have a monthly
inventory cycle (20 working days), group B quarterly (60 working days) and group
C every 6 months (120 working days). Calculate the quantity of each item that needs
to be inventoried each day?
Solution
Number of items need to be checked
Group Quantity Counting cycle
daily
A 500 Monthly 500/20 = 25 items/day
B 1.750 Quarterly 1.750/60 = 29 items/day
C 2.750 Every 6 months 2.750/120 = 23 items/day CH3-18
5.000 Average 77 items/day
 ABC analysis
Turnover ratio in inventory

Turnover ratio (inventory) represents the number of times that goods are sold out and
refilled per unit of time

Total sales amount (in year)

Turnover ratio =
Mean inventory

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 ABC analysis
ASSIGNMENT

Question

By December 30, 2020, the chain sold goods with revenue of $324. The average inventory value
is $23,432, calculate the turnover ratio?

Solution
Apply the Formula to calculate the turnover ratio value
Turnover ratio = 324 ÷ 23.432 ≈ 13.83

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ABC analysis
Warehouse layout in ABC style
Rotate Average
Rotate slowly
quickly Rotation

Entrance 

Area A Area B Area C CH3-21