The Pareto law in inventory management is essential because it allows us to focus on the essentials. To apply it, we may be tempted to carry out an ABC classification for inventory. This classification is encouraged by the literature and Supply Chain courses. In many cases, this classification is generated at regular intervals by a job in the ERP inventory classification system. It is not always clear, however, what criteria are applied in this calculation.
Using an ABC classification makes perfect sense: let’s focus on the A items, which represent the main issues in terms of economic stakes!
Yes, but…
How can such a classification be established?
For inventory management strategies, an approach along the lines of:
- A: 20% of items representing 80% of sales (or production value, inventory value, or profit generated…)
- B: 30% of items representing 15% of the value selected for calculation
- C: 50% of items representing 5% of value.
Once again, it seems like common sense: why spend time and effort on C items that have limited economic impact?
Let’s dig a little deeper and take 4 articles:
We have 3 class A items and one class C item based on the annual consumption value. Historical consumption figures are shown below:
Item1
Item2
Item3
Item4
Based on this information, what conclusions do you draw from your ABC classification to help you make the right decisions?
Items 1, 2, and 3 are all A items, but can you treat them similarly?
Item 4 is a C item: it’s of low value, but you use it every day—if you run out, what are the consequences?
Should you focus your teams’ attention on the reliability of your forecasts, or on optimizing the inventory of item 1, which is consumed 6 times a year but has a high value?
For effective consumable item management, it’s crucial to consider more than unit value. Items like consumables often have a critical role in ensuring smooth inventory flow.
Our recommendation for demand-driven inventory is to classify items according to their frequency of consumption, not their unit value.
Here’s an extract from Intuiflow inventory tools that can be used to categorize items and automate inventory settings. By leveraging inventory flow automation, you can ensure that critical items are always available without overstocking.
Your first priority is to secure the flow to serve your customers. Items that are frequently consumed have a strong impact on the flow. If they are not available, the impact is critical.
In a previous life, when I oversaw supply chain optimization for an electronics factory, we came very close to running out of solder. The solder was a consumable, class C, but if we’d run out, we’d have stopped the factory and the manufacture of all those beautiful A items…
You can, of course, take item costs into account to adjust your stocking decisions and optimize cash flow, but start by designing your model based on flow, inventory frequency analysis, consumable item management, and inventory flow automation!
