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What is ABC Analysis in Inventory Management?

Not all inventory items in businesses are equal. Only a few items drive most of the value. That’s where ABC analysis comes in. ABC analysis is an inventory control method that classifies items based on their contribution to your business’s value. It separates inventory into three categories:

  • Category A items are the most important and require strict monitoring. 
  • Category B items are moderately important. 
  • Category C items have the minimal value and require the minimum attention.

It helps businesses focus on what actually matters, reducing storage and excess stock costs, and also improves purchase decisions. 

In this blog, we will help you understand what ABC analysis is, how ABC analysis works, state the importance of ABC analysis, and how to use it to manage inventory more efficiently.

Table of Contents:

What is ABC Analysis in Inventory Management?

ABC analysis is an inventory categorization method based on the Pareto Principle, which suggests that a low percentage of items usually represent a high percentage of the total value or usage. ABC analysis full form is “Always Better Control” in terms of inventory management. 

This helps the companies focus on the value of the few items that will provide value in the business. ABC Analysis divides inventory into three categories: A, B, and C, based on their value and importance to the business.

Items of the highest value fall under category A. These normally make up a small part of the entire stock, but a significant proportion of the value of the inventory. A items are closely monitored. They require thorough planning, tight control, and should not run out or be overstocked.

Category B items are moderately important. They make up a large portion of the inventory compared to the A items, but are less value-adding. These need to be reviewed and controlled regularly to establish an equilibrium of availability and cost.

Category C items have the lowest value. They tend to account for the greatest part of the inventory in number, but a very small part of the total value. They require only basic monitoring, which saves both time and effort.

To put it simply, ABC analysis helps management prioritise what matters most. Businesses emphasize high-value products that make a difference in profits, as opposed to treating all goods equally.

ABC Analysis Inventory Classification: A, B, and C Categories 

ABC analysis is a system that came up in inventory management, segregating inventory items in three groups: A, B and C, in terms of value and frequency of sales. The method is useful in a company that wants to concentrate on what is important in its inventory.

1. In ABC analysis method what does A represent?

Category A is composed of high-valued items that form a small percentage of the inventory and are the largest contributor to the total inventory value. They are comprised of items that are traditionally sold with a low frequency but are also important to the business practice and revenues. Instances include tech products of a tech company, which are categorized as Category A, high-end electronic components. Taking care of these items will avoid expensive stockouts.

Criteria for Category A items:

  • High annual consumption value
  • Low sales frequency
  • Essential for business success

2. In ABC analysis method what does B represent?

The items in category B are of moderate value and moderate frequency of sales. They are not as essential as Category A items. These need balanced inventory control to have no stockouts, as well as unwanted stock. The Category B items tend to be mid-range electronic accessories (an example).

Criteria for Category B items:

  • Moderate annual consumption value
  • Moderate sales frequency
  • Important but less critical than Category A

3. In ABC analysis method what does C represent?

In the ABC analysis, C items are low-priced items that record high frequencies of sales. They constitute the biggest percentage of stock in terms of numbers, but do not add much to the total value. Some of them are office supplies and common fasteners. Efficient management prevents overstocking and keeps C items cost low.

Criteria for Category C items:

  • Low annual consumption value
  • High sales frequency
  • Less critical to revenue but vital for daily operations

The ABC analysis technique supports smarter inventory prioritization and control by helping companies focus on what matters most. 

Why Use ABC Analysis in Inventory Control?

ABC analysis applies to supply chain management and inventories. It tends to be used as a procedure in cycle counting. This process is of particular significance to businesses that are willing to lower working capital and carrying costs.

ABC analysis assists you in identifying the items that simply sit on the shelf. You can clear it out and restock faster-moving goods. That way, your capital isn’t tied up in unsold inventory and redirected to faster-moving, higher-margin products.

By keeping a keen eye on the more costly products, you will never be at fault as to how much your inventory is valued at. This makes their reordering more accurate and timely, and the essential items are available on the shelf at the time of need.

The slow movers are C items. They do not have to be replenished as frequently as A or B items. On breaking down your inventory into A, B, and C, you know what to stock at all times and what you just call in when you need it, or don’t bother purchasing.

Toyota, for example, keeps fast-moving parts readily available and only orders slower-moving parts when needed. Something similar is done by Walmart. They ensure that their high-demand products are always in stock while allowing suppliers to deliver their slow-moving products as needed, reducing storage expenses.

ABC Analysis: Step-by-Step Process for Inventory Management with Example 

ABC analysis helps you identify which inventory items are most valuable to your business so you can manage them more efficiently. 

Here’s how to do it, with a simple ABC analysis example built into each step.

Step 1: Gather Inventory Data

Start by listing all your inventory items. For each item, note:

  • Annual demand (how many units you use in a year)
  • Unit cost (price per unit)

Example:

ItemAnnual demandUnit cost (₹)
15,00020
23,00015
32,00030
41,00010
54,0005

Step 2: Calculate Annual Consumption Value

Multiply each item’s annual demand by its unit cost to get its annual value.

Formula:
Annual Value = Annual Demand × Unit Cost

Example:

ItemAnnual Value (₹)
1100,000
245,000
360,000
410,000
520,000

Step 3: Sort Items by Total Value (Descending Order)

Sort items by annual value in descending order.

ItemAnnual Value (₹)
1100,000
360,000
245,000
520,000
410,000

Step 4: Calculate Percentage of Total Inventory Value

First, calculate the total inventory value.

Total Value:
100,000 + 60,000 + 45,000 + 20,000 + 10,000 = ₹235,000

This helps prioritize items based on their share of total inventory value.

Formula:
Percentage of Total Value = (Item Value / Total Inventory Value) × 100

Item% of Total Value
142.6%
325.5%
219.1%
58.5%
44.3%

Step 5: Compute Cumulative Percentage

Add the percentages one by one to understand how much of the total value is covered cumulatively.

Item% of Total ValueCumulative %
142.6%42.6%
325.5%68.1%
219.1%87.2%
58.5%95.7%
44.3%100%

Step 6: Classify Items into A, B, and C

Use the cumulative percentage to group items:

  • A items: Top ~70-80% of value (few items, high value) – Items 1 and 3
  • B items: Next ~15-25% of value – Item 2
  • C items: Remaining items with low total value – Items 5 and 4

Step 7: Set Control Policies for Each Category

Now assign management strategies:

  • A items: Tight control, frequent review, low safety stock
  • B items: Moderate controls and regular monitoring
  • C items: Basic controls, reorder occasionally or on demand

Step 8: Review and Update Regularly

Inventory patterns change over time. Run ABC analysis every few months or quarterly to stay accurate.

How ABC Analysis is Used Across Different Industries

ABC analysis is indeed a clever method of handling inventory and putting it in three categories depending on value and importance. Most industries use this to keep the costs low and concentrate on the most important thing.

1. Manufacturing Industry

ABC analysis helps manufacturers ensure that the essential parts are always in stock. For example, in a car factory:

  • A-items: Engine components that are expensive and critical
  • B-items: Wheels or doors, important but easier to replace
  • C-items: Bolts, nuts, or washers that are cheap and used in bulk

This classification helps prevent delays by ensuring important parts are always in stock, which keeps production running smoothly.

2. Retail Industry

Retailers use ABC analysis to manage shelf space and avoid overstocking.

  • A-items: Best-selling products like mobile phones or trendy clothing
  • B-items: Seasonal items like winter jackets
  • C-items: Low-cost accessories such as keychains or socks

Focus stays on fast-moving products that drive revenue.

3. Healthcare Industry

Hospitals and clinics rely on ABC analysis to prioritize critical supplies.

  • A-items: Life-saving drugs and surgical tools
  • B-items: Bandages, gloves, and syringes
  • C-items: Items with lower usage, like certain supplements

It ensures essential equipment is never out of stock.

4. Automotive Industry

Car service centers and parts dealers use ABC to manage thousands of SKUs.

  • A-items: Expensive parts like gearboxes or brake systems
  • B-items: Routine maintenance parts like oil filters
  • C-items: Add-ons like air fresheners or seat covers

This keeps high-value parts in focus without wasting money on low-priority stock.

5. E-commerce Industry

Online stores use ABC analysis to balance warehouse space and delivery times.

  • A-items: Fast-moving products like smartphones or headphones
  • B-items: Mid-level items like casual wear or backpacks
  • C-items: Niche products or slow-moving goods

It helps avoid dead stock and improves order fulfillment.

6. Food & Beverage Industry

Restaurants and food businesses use ABC to reduce waste.

  • A-items: High-cost perishables like seafood or premium wine
  • B-items: Common ingredients like rice or canned beans
  • C-items: Low-value items like sauces or spices

Perishables are prioritized to maintain freshness and cut spoilage.

7. Construction Industry

Construction firms apply ABC analysis to manage expensive tools and everyday materials.

  • A-items: Cranes, drills, and machinery
  • B-items: Cement, tiles, or paint
  • C-items: Screws, nails, or tapes

This improves project planning and reduces equipment shortages.

8. Pharmaceutical Distribution

Distributors use ABC analysis to handle large product ranges.

  • A-items: High-cost or life-saving medicines
  • B-items: Common prescription drugs
  • C-items: OTC pills or vitamins

It ensures essential medicines are always available and storage is used wisely.

ABC analysis assists all businesses, including hospitals and e-commerce, to concentrate on the inventory that affects them most. It is not about equitable treatment of stock. It is a matter of receiving where it counts: your time, your money, and your attention.

Real-Life Success Stories of ABC Analysis in Inventory Management 

Here are some real-life success stories of companies that implemented ABC analysis in their inventory management and saw measurable results, along with references you can cite or explore for more depth:

1. Apollo Hospitals (India): Medical Inventory Optimization

What happened: Apollo used ABC analysis along with VEN (Vital, Essential, Non-essential) classification to improve medical inventory control across hospitals and pharmacies. A-items included life-saving drugs and high-value devices.

Result:

  • Reduced stockouts of essential medicines.
  • Lowered wastage due to the expiry of slow-moving drugs.

2. Unilever: Streamlined SKUs Across Product Lines

What happened: Unilever applied ABC analysis as part of a broader supply chain revamp, using it on its massive product portfolio to focus only on SKUs that mattered most in terms of value and demand. 

Result:

  • Minimize overstocking and obsolescence risk, leading to less waste and lower holding costs.
  • Improved working capital and shelf availability for key products.

3. Amazon: Optimizing Warehouse Picking with ABC

What happened: Amazon uses an ABC analysis in its bin and picking system. High-value items (A-items) are placed in locations with the fastest access to reduce picking time. C-items are stored farther away or grouped with other low-priority items.

Result:

  • Faster order fulfillment
  • Reduced warehouse labor cost
  • Improved inventory turnover

Policies and Guidelines for ABC Inventory Management

ABC analysis helps businesses focus more on the items that impact sales and profits the most. Not every product needs the same level of attention. ABC analysis groups them based on their importance.

Item A (High-value, fast-moving items)

  • These items need strict inventory control and are stored in secure areas.
  • Their sales are easier to predict.
  • They are reordered often, either daily or weekly.
  • They are a top priority, and stock-outs should be avoided at all costs.

Item B (Mid-value, moderately moving items)

  • These are not as critical as A items, but more important than C items.
  • They are monitored closely to see if they should move into A or drop into C, depending on changes in demand.

Item C (Low-value, slow-moving items)

  • These are ordered less often, sometimes only after a sale happens.
  • Since demand is low and holding costs can be high, it’s okay if they run out after each purchase.
  • Managers often question whether it’s even necessary to keep these in stock at all.

Best Practices for ABC Analysis 

To obtain the most value from an ABC analysis, it should, when possible, be performed regularly and should focus on sales patterns and happenings influencing inventory. The entire process can become easier by using an inventory software. Here is how to apply it effectively:

1. Keep It Simple

Categorize items according to the frequency of sales. Highly in-demand items are more likely to run out quickly. You can also rank them by price or profit margin, put the most valuable in Class A, mid-range in B, and the cheapest in C.

2. Set Service Levels by Class

Choose the amount of time you want to allocate to each of the classes and how much energy you want to devote to them. The items in Class A should get the utmost attention, such as checking them more frequently or devoting more time to them. For example, spending 10 hours on 100 Class A items has a bigger impact than spending the same time on 10,000 low-value C items.

3. Use Different KPIs for Each Class

Monitor the performance of every class individually with the proper analytics and dashboards.

4. Do Regular Reviews

Look at the effectiveness of your ABC system, particularly when carrying out complete inventory checks or when your rules, as well as schedules, depend on these groupings.

5. Check Surplus Stock

First of all, you have to ask yourself whether you need the additional inventory you have on hand. In the current dynamic supply chain, a surplus of inventory may be expensive. In case you choose to keep it, ensure that it is classified accordingly.

6. Control at All the Locations

When you are storing something in more than one location, ensure that your system records all the items in each of the locations.

7. Track Inventory in Transit

When goods are being transported from one place to another, track the scheduled time that has been taken between the shipment and the delivery of goods. It helps detect delays, damages, or losses during transit.

8. Use Technology and Data

Monitor the demand, manage stock using inventory software, and identify the problem at the early stages. Restocking decisions and plans should be made using data.

Advantages of ABC Analysis in Inventory Management

ABC analysis sorts your items into three simple groups, A for the most valuable, B for medium, and C for the least, so you can give the best care, space, and money to the few products that matter most. Here are some of the benefits of ABC analysis in inventory management:

1. Smart Spending: Put most money and effort on the few items that earn the most. It is better not to spend too much money on low-value stocks.

2. Track Trends: Watch if a product is growing or fading in sales. Move stock up or down before demand changes.

3. Save Space: Keep big quantities of “A” items and small piles of “C” items on the shelf. Less rent, less clutter.

4. Never Run Out of Stock: Watch your “A” items every day so they never go out of stock. Customers stay happy and sales stay high.

5. Easy Labels: The A-B-C tags tell staff exactly what to check first. So, the staffs know exactly where  to focus without digging through long reports.

6. Happy Customers: High-in-demand items stay in stock, which keeps customers loyal and revenue steady.

7. Smart Prices: Raise prices on hot “A” items and drop prices on slow “C” items. You earn more and clear old stock.

Disadvantages of ABC Analysis in Inventory Management

Here are some disadvantages of ABC analysis:

1. Frequent Reclassification: Items often shift between A, B, and C every few months as their sales change. Staff must re-check lists often and can miss a shift, causing stock-outs.

2. Misses New or Seasonal Items: New or seasonal goods may be misclassified due to low early demand, leading to stockouts when sales are high.

3. Hidden Value Ignored: Some low-selling items still matter, like a flashy store display or a cheap but vital plane part. ABC only looks at sales dollars.

4. Extra Time and Staff: Frequent reclassification can consume a lot of time and require extra staff or inventory tools. Small firms may spend more effort on labels than on real work.

5. Overstock or Run-out Risk: Low-class “C” items are watched less. You may end up with too many that expire or too few that customers still want.

6. Clash with Accounting: ABC rules clash with normal accounting (GAAP). Running two sets of books raises costs and confusion.

7. Needs Rigid Rules: Every item must be named, stored, and rated the same way. Without clear, shared rules, two managers may label the same item differently.

ABC Analysis vs. Other Inventory Management Techniques

Inventory management techniques such as ABC, XYZ, and VED analyses are valuable tools, each providing a unique perspective on how to optimize inventory control. Let’s take a look at how ABC analysis differs from VED and XYZ analysis:

Difference Between ABC and VED Analysis

There are two ways to sort inventory and make managing it easier: ABC and VED analysis. Both help decide which items need the most attention, but they work in different ways.

Point of DistinctionABC AnalysisVED Analysis
FocusHow much the item is worth and how often it’s used.How critical and urgent the item is.
CategorisationClassified into A, B, and C, where A means high value and frequent use, and C means low.Classified into V for vital, E for essential, and D for desirable.
Decision-makingHelps plan reorder quantities and set stock levels.Helps prioritize what needs to be available quickly.
BenefitsUses resources well, keeps inventory balanced, and improves customer service.Focuses on what’s most important, saves costs, and reduces risks.

Difference Between ABC and XYZ Analysis

ABC and XYZ analyses are both inventory management techniques, but they categorize items based on different criteria. ABC analysis prioritizes items based on their value or importance, while XYZ analysis focuses on demand variability. Below are some of the key differences between ABC and XYZ analysis:

Point of DifferenceABC AnalysisXYZ Analysis
PurposePrioritizes items based on their monetary value or consumption costClassifies items based on their demand variability or consumption consistency
CategoriesA (high value), B (moderate value), C (low value)X (predictable), Y (moderately variable), Z (highly erratic)
FocusCost control and profit impactForecast accuracy and inventory planning
Inventory StrategyTight controls and frequent reviews for A itemsSafety stock and forecasting models for Y/Z items
Use CaseHelps decide where to invest time and money in inventoryHelps manage risk and uncertainty in demand
GoalMaximize efficiency by managing value-heavy itemsMinimize stockouts or overstock due to demand fluctuations
Decision-makingFocused on reducing inventory investmentFocused on improving customer service levels

Innovative Applications of ABC Analysis in Business Operations

ABC Analysis is not just for managing stock. Once you know which items matter most, you can apply them across different parts of your business to improve focus, save time, and reduce waste. Here are five practical ways companies use ABC Analysis beyond basic inventory control:

1. Managing Supplier Relationships

You can rank suppliers based on how important their items are to your business. Spend more time building strong relationships with Category A suppliers who provide the most valuable or time-sensitive goods. This usually leads to better terms, faster deliveries, and more reliability. For Category C suppliers, consider automating communication or switching to more cost-effective options.

2. Prioritizing Sales and Marketing

Sort products or customers by how much revenue they generate. Focus your marketing efforts on Category A customers or products since they bring in the most value. These might receive tailored offers or priority service. Lower-value customers in Category C can be handled with automated tools or broader marketing campaigns to save time and resources.

3. Making Warehouse Storage Smarter

Organize your storage based on how frequently or quickly items move. Keep Category A items in easy-to-access spots for faster picking and packing. Store slower-moving items from Categories B and C in less prominent areas to save space and improve efficiency.

4. Reducing Risk with Backup Plans

Use ABC to plan for supply chain risks by identifying which items are critical. Make sure Category A items are always available, even during supplier delays or disruptions. This might include keeping extra stock or setting up backup vendors. Less important items in Category C can be managed with more flexible or reactive plans.

5. Smarter Inventory Budgeting

Use ABC to guide how you spend your inventory budget. Invest more in Category A items by focusing on quality, safety, and careful management. Spend less on B and C items to keep costs in check and free up working capital for the things that matter most.

Conclusion

ABC Analysis helps businesses manage inventory more strategically by sorting items based on their value. It gives businesses a clear way to focus on the most important products and avoid wasting time and money on less important ones. Figuring out the right inventory levels for each category takes careful attention. The key is to understand how ABC Analysis works and follow good practices. When done right, it makes inventory management smoother and more efficient.

If you want to dive deeper into ABC Analysis and learn other smart inventory strategies, consider Intellipaat’s supply chain management course by IIT Indore DRISHTI CPS. It’s a great way to build your skills and advance your career.

ABC Analysis – FAQs

Q1: What are some common mistakes to avoid in ABC classification?

Ans. Common mistakes include looking only at the item cost instead of the total value used over time. Another is not updating the classification regularly as things change. Many people assume the 80/20 rule always fits, but that is not always true. Also, not asking for input from teams like operations or purchasing can cause important items to be missed.

Q2: How can ABC Analysis be used for cycle counting in inventory?

Ans. ABC Analysis helps you decide how often to check each type of inventory item. First, sort items into three groups: A, B, and C. Next, focus most on Class A items because they are the most valuable. Count them more often. You can use your time and effort mainly on these. Additionally, set a schedule for each group, stick to it, and review the process regularly to keep improving.

Q3: What is the formula for ABC analysis?

Ans. The formula for ABC analysis is:

Annual Consumption Value = Annual Demand × Unit Cost

Then, find the percentage of each item’s consumption value:

Percentage of Total = (Annual Consumption Value of Item ÷ Total Consumption Value of All Items) × 100

You use this percentage to rank and classify items into A, B, and C categories.

Q4: How to do an ABC analysis of inventory in Excel?

Ans. To do ABC analysis in Excel, you can start by listing all inventory items along with their price and yearly usage. Next, multiply price by quantity to get the total value of each item, then sum these to get your total inventory value. For each item, calculate what percentage it contributes to the total. Sort the list from highest to lowest percentage. Further, create a running total down the list, and classify items as A if they make up the top 70-80% of value, B for the next 15-20%, and C for the rest. This helps you focus on the items that have the biggest impact.

Q5: How often should ABC analysis be done?

Ans. ABC analysis must be conducted periodically, such as quarterly or annually, to reflect changes in inventory usage patterns, product lifecycles, and market demand.

Q6: Can ABC analysis be automated in ERP systems?

Ans. Yes, ABC analysis can be automated within ERP systems. These systems can automatically classify inventory items and provide real‑time data, helping businesses make smarter and better decisions.

Q7: What is the full form of ABC analysis?

Ans. The full form of ABC analysis is “Always Better Control”.

About the Author

Kishore Kumar
Kishore Kumar
Vice President, JPMorganChase

With an MBA in Finance and over 17 years in financial services, Kishore Kumar has expertise in corporate finance, mergers, acquisitions, and capital markets. Notable roles include tenure at JPMorgan, Nomura, and BNP Paribas. He is recognised for his commitment, professionalism, and leadership in work.

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