ABC Analysis: A Method for Better Business Planning
It is necessary for management to find out which thing contributes to the company’s success. They can evaluate different factors such as the quality of products, purchased items, or consumers because they have an important role in the company’s success. For assessing and analyzing, ABC analysis gives a solid illustration. It helps to analyze crucial individual items of the company. You can determine your most-selling products, target customers, and other relevant factors. Consequently, the company can readjust its production costs to increase profits. With the help of these factors, the management can make successful business planning.
Background and Definition of ABC Analysis:
What exactly is ABC analysis? It is a useful business planning method that helps to visualize the actual situation in an organization or a company. ABC analysis is used to answer income-related questions. The company can also find answers for future targets. You must consider the following elements.
- Your main customers.
- Your resources.
- Most profitable products.
In ABC analysis, we usually divided them into three steps such as,
- A (very important)
- B (moderately important)
- C (less important)
It is also crucial to find out which item or factor contributes the most to the revenue and profits.
This analysis is based on the “Pareto Principle.” This principle uses the 80/20 rule. It may represent that 20 percent of consumers generate 80 percent of the income. It is an excellent method for evaluating which services, customers, and goods are generating more profits. These factors influence various things such as marketing, customer service, and sales. They can also find out which customers deserve special offers and deals. They can also evaluate their target customers, their preferences, and needs. All these factors contribute a big role in the company’s success.
Any organization can utilize ABC analysis to prioritize its tasks by identifying which consumers or products are necessary to the company. For boosting productivity, the Eisenhower Method is really important. Hence, ABC analysis is a vital tool for analyzing the situation in the company. Managers at the company can take appropriate decisions in light of these factors to increase profit.
How to Conduct an ABC Analysis? An Example
Here, we will show you how to implement this analysis in real-life situations.
The Problem:
How can you cut the manufacturing costs of a particular product? This is the initial question when it comes to ABC analysis. The answer is to buy cost-effective materials and manufacture products in an efficient manner.
Data Collection and Analysis:
Collecting data in the form of which materials gain the highest money. On the basis of manufacturing costs, you can categorize them in the order of A, B and C (A is the highest and C is the lowest). In this way, you can analyze the data more efficiently.
Defining the Groups:
If a product is gaining the highest manufacturing costs (say 80%), you can categorize it into group A. If a product is gaining moderate manufacturing costs (say 50%), you can place it into category B. Moreover, if a product is gaining less manufacturing cost (say 20%), you can add it into group C. By defining each product in different categories, you can evaluate each product more efficiently. If you do not separate them into specific groups, then you will not get meaningful outcomes.
Analysis through the ABC:
After collecting the data and assigning it into groups A, B and C, you can realize how to cut the production costs in the future. On the basis of groups or their share, you can take appropriate decisions while purchasing materials. Hence, you can decide what you want for the company that doubles the revenue. It makes your procurement process slightly more manageable.
Advantages and Disadvantages of ABC Analysis:
In light of the above examples, it is clear that ABC analysis is ideal for solving complex processes to show them in an easy way. It is a tool that every company should utilize for accounting and controlling. You can conduct further analysis at any time without any hassle. The biggest strength of this method is that it can be applied to many businesses, which helps them decide future business decisions easily.
On the other hand, ABC analysis encompasses some disadvantages. It is very common to categorize items into three categories. Moreover, if the data barely differ, it will be hard to categorize them into A, B, and C. According to experts, it is impossible that the system’s biggest disadvantage. Also, it does not investigate the impact of qualitative changes on revenue.
In conclusion, you can make some modifications in ABC analysis in certain situations or conditions. For example, you can add more categories in this analysis according to your demand.
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