1. ABC Analysis & Cost of Goods Sold 1Dr. BALAMURUGAN MUTHURAMAN Chapter 2

2. CHAPTER OUTCOMES  Meaning of ABC Analysis  Policies of ABC Analysis  Calculation of ABC Analysis  Meaning of Cost Of Goods Sold  Calculation of Cost Of Goods Sold 2Dr. BALAMURUGAN MUTHURAMAN

3. ABC Analysis In supply chain, ABC analysis is an inventory categorization method which consists in dividing items into three categories, A, B and C: A being the most valuable items, C being the least valuable ones. 3Dr. BALAMURUGAN MUTHURAMAN

4. An analysis of a range of items that have different levels of significance and should be handled or controlled differently. It is a form of Pareto analysis in which the items (such as activities, customers, documents, inventory, items, sales territories) are grouped into three categories (A, B, and C) in order of their estimated importance. 'A' items are very important, 'B' items are important, 'C' items are marginally important. 4Dr. BALAMURUGAN MUTHURAMAN

5. For example, the best customers who yield highest revenue are given the 'A‘ rating, are usually serviced by the sales manager and receive most attention. 'B' and 'C' customers warrant progressively less attention and are serviced accordingly. 5Dr. BALAMURUGAN MUTHURAMAN

6. The ABC approach states that, when reviewing inventory, a company should rate items from A to C, basing its ratings on the following rules: A-items are goods which annual consumption value is the highest. The top 70-80% of the annual consumption value of the company typically accounts for only 10-20% of total inventory items. 6Dr. BALAMURUGAN MUTHURAMAN

7. B-items are the interclass items, with a medium consumption value. Those 15-25% of annual consumption value typically accounts for 30% of total inventory items. C-items are, on the contrary, items with the lowest consumption value. The lower 5% of the annual consumption value typically accounts for 50% of total inventory items. 7Dr. BALAMURUGAN MUTHURAMAN

8. ABC Analysis 8Dr. BALAMURUGAN MUTHURAMAN

9. ABC Analysis - Business 9Dr. BALAMURUGAN MUTHURAMAN

10. A-items should have tight inventory control, more secured storage areas and better sales forecasts. Reorders should be frequent, with weekly or even daily reorder. Avoiding stock-outs on A-items is a priority. B-items benefit from an intermediate status between A and C. An important aspect of class B is the monitoring of possible progress toward class A or, in the different, toward the class C. C-items is made less frequently. A typically inventory policy for C- items consist of having only 1 unit on hand, and of reordering only when an actual purchase is made. This approach leads to stock-out situation after each purchase which can be an acceptable situation, as the C-items present both low demand and higher risk of excessive inventory costs. For C-items, the question is not so much how many units store? but rather even keep this item in store? Policies of ABC Analysis 10Dr. BALAMURUGAN MUTHURAMAN

11. Calculation of ABC Analysis The annual consumption value is calculated with the formula: (Annual demand) x (item cost per unit) 11Dr. BALAMURUGAN MUTHURAMAN

12. Steps for the classification of items: 1.Find out the unit cost and the usage of each material over a given period. 2.Multiply the unit cost by the estimated annual usage to obtain the net value. 3.List out all the items and arrange them in the descending value (Annual Value). 12Dr. BALAMURUGAN MUTHURAMAN

13. 4.Accumulate value and add up number of items and calculate percentage on total inventory in value and in number. 5.Draw a curve of percentage items and percentage value. 6.Mark off from the curve the rational limits of A, B and C categories. 13Dr. BALAMURUGAN MUTHURAMAN

14. Percentage of items Percentage value of annual usage Class A itemsAbout 20%About 80% Close day to day control Class B itemsAbout 30%About 15% Regular review Class C itemsAbout 50%About 5% Infrequent review 14Dr. BALAMURUGAN MUTHURAMAN

15. Cost Of Goods Sold (COGS) Cost of goods sold is the accumulated total of all costs used to create a product or service, which has been sold or the direct costs involved in the production of the goods sold by a company. This amount includes the cost of the materials used in creating the goods along with the direct labor costs used to produce the goods. It excludes indirect expenses such as distribution costs and sales force costs. COGS appears on the income statement and can be deducted from revenue to calculate a company's gross margin. Also referred to as "cost of sales”. 15Dr. BALAMURUGAN MUTHURAMAN

16. Calculation of COGS One way to calculate the Cost Of Goods Sold is to aggregate the period-specific expense listed in each of the general ledger accounts that are designated as being associated with the cost of goods sold. This list usually includes the following accounts:  Direct materials  Direct labor  Factory overhead  Freight in and freight out 16Dr. BALAMURUGAN MUTHURAMAN

17. The list may also include commission expenses, since this cost usually varies with sales. The cost of goods sold does not include any administrative or selling expenses. In addition, the cost of goods sold calculation must factor in the ending inventory balance. If there is a physical inventory count that does not match the book balance of the ending inventory, then the difference must be charged to the cost of goods sold. 17Dr. BALAMURUGAN MUTHURAMAN

18. To calculate the cost of goods sold is to use the periodic inventory system, which uses the following formula: Beginning inventory + Purchases - Ending inventory = Cost of goods sold 18Dr. BALAMURUGAN MUTHURAMAN