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Glossary – ABC analysis

ABC analysis

Nikiforov Alexander
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What is ABC Analysis?

ABC analysis is a method of classifying resources to determine their impact on a company's profitability. This method is widely used in the analysis of product assortments, allowing for the identification of the profitability of various groups of goods or individual items. In this article, we will focus on the ABC method specifically in the context of product analysis.

The foundation of ABC analysis is the Pareto principle, which states that 20% of efforts lead to 80% of results. In relation to product assortments, this can be interpreted as: 20% of goods account for 80% of the company's total turnover. The method involves ranking products according to their contribution to overall profitability and divides them into three categories:

  • Group A — the most valuable products, making up 20% of the assortment and generating 80% of sales.
  • Group B — intermediate products, comprising 30% of the assortment and bringing in 15% of sales.
  • Group C — the least valuable products, constituting 50-60% of the assortment and yielding only 5% of sales.

Application of ABC Analysis

ABC analysis can be used for various purposes, including:

  • Developing and revising the company's development strategy;
  • Formulating marketing strategies;
  • Optimizing budget planning;
  • Managing inventory levels;
  • Building sales strategies.

ABC analysis should not be conducted as a one-time event, but rather on a regular basis — at least once a year, preferably quarterly. This will allow the company to track the dynamics of product profitability and adapt to market changes and internal conditions.

Types of ABC Analysis

ABC analysis can be conducted to evaluate:

  • Individual product items or the entire assortment;
  • Warehouse stocks to identify excess goods;
  • Suppliers to determine the most profitable partners;
  • Customer bases to identify the most profitable customer groups;
  • The effectiveness of company departments;
  • Costs, investments, and the overall budget.

How to Conduct ABC Analysis?

To conduct ABC analysis, you will need Excel or Google Sheets. The process includes the following steps:

  1. List all items you want to evaluate in the first column.
  2. In the second column, specify evaluation criteria such as profit, sales volume, cost of raw materials, etc., expressing the significance of each item as a percentage.
  3. Sort the items in descending order based on percentage values.
  4. In the third column, calculate the cumulative percentage for each item.
  5. In the fourth column, determine the group to which each item belongs.
  6. Draw conclusions about the feasibility of further work with each group of goods.

Example of ABC Analysis

Let's consider an example of ABC analysis based on the sales of decorative cosmetics.

  1. Enter all product groups into a table: eyeshadows, foundations, lipsticks, etc., and indicate the sales amounts for the last three months.
  2. Calculate the percentage of total sales for each group and sort them in descending order.
  3. Determine the cumulative percentage for each category of goods.
  4. Indicate the belonging to the respective groups.
  5. Formulate conclusions about the feasibility of further work with each category.

Advantages and Disadvantages of ABC Analysis

The advantages of this method include:

  • Simplicity and ease of learning;
  • Reliability of results due to the transparency of calculations;
  • Universality, allowing for the analysis of various resources;

However, there are also disadvantages:

  • Unidimensionality of the analysis;
  • The assumption that past trends will continue;
  • The necessity of regular updates to the analysis;

Combined ABC/XYZ Analysis

ABC analysis is often combined with XYZ analysis, which assesses demand stability. This helps to identify how sales depend on external factors such as seasonality and market fluctuations. After conducting ABC analysis, XYZ analysis can be performed, ultimately providing a deeper understanding of sales dynamics.

As a result of the combined analysis, nine groups of products are formed, enabling more precise assortment management and inventory planning.