The ABC Approach

The ABC approach is a simple approach to inventory management in which the basic idea is to divide inventory into three (or more) groups. The underlying rationale is that a small portion of inventory in terms of quantity might represent a large portion in terms of inventory value. For example, this situation would exist for a manufacturer that uses some relatively expensive, high-tech components and some relatively inexpensive basic materials in producing its products.

Figure 21.3 illustrates an ABC comparison of items in terms of the percentage of inventory value represented by each group versus the percentage of items represented. As Figure 21.3 shows, the A Group constitutes only 10 percent of inventory by item count, but it represents over half of the value of inventory. The A Group items are thus monitored closely, and inventory levels are kept relatively low. At the other end, basic inventory items, such as nuts and bolts, also exist, but, because these are crucial and inexpensive, large quantities are ordered and kept on hand. These would be C Group items. The B Group is made up of in-between items.

© The McGraw-Hill Companies, 2002

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CHAPTER 21 Credit and Inventory Management 727

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