Pure Plastics Inc. manufacture molded plastic pieces. A sample of their raw material inventory is shown in the table below:
Item Average Inventory (units) Value ($/unit)
128 400 3.75
234 300 4.00
233 120 2.50
236 75 1.50
239 60 1.75
240 30 2.00
678 20 1.15
784 12 2.05
821 8 1.80
831 7 2.00
911 6 3.00
A) How would the plant classify these items according to an ABC classification system?
B) How can Pure Plastics use this information?
A) To classify these items according to an ABC classification system, Pure Plastics Inc. would need to determine which items are of high, medium, and low value based on their annual usage value. The annual usage value is calculated by multiplying the average inventory by the value per unit.
1. First, calculate the annual usage value for each item by multiplying the average inventory with the value per unit.
Item 128: Annual usage value = 400 units * $3.75/unit = $1500
Item 234: Annual usage value = 300 units * $4.00/unit = $1200
Item 233: Annual usage value = 120 units * $2.50/unit = $300
Item 236: Annual usage value = 75 units * $1.50/unit = $112.50
Item 239: Annual usage value = 60 units * $1.75/unit = $105
Item 240: Annual usage value = 30 units * $2.00/unit = $60
Item 678: Annual usage value = 20 units * $1.15/unit = $23
Item 784: Annual usage value = 12 units * $2.05/unit = $24.60
Item 821: Annual usage value = 8 units * $1.80/unit = $14.40
Item 831: Annual usage value = 7 units * $2.00/unit = $14
Item 911: Annual usage value = 6 units * $3.00/unit = $18
2. Sort the items in descending order based on their annual usage value.
Item 128: $1500
Item 234: $1200
Item 233: $300
Item 236: $112.50
Item 239: $105
Item 240: $60
Item 784: $24.60
Item 821: $14.40
Item 831: $14
Item 911: $18
Item 678: $23
3. Calculate the cumulative percentage of the total annual usage value as you move down the list.
Item 128: $1500 (16.67% cumulative percentage)
Item 234: $1200 (33.33% cumulative percentage)
Item 233: $300 (41.67% cumulative percentage)
Item 236: $112.50 (45.83% cumulative percentage)
Item 239: $105 (50% cumulative percentage)
Item 240: $60 (54.17% cumulative percentage)
Item 784: $24.60 (56.25% cumulative percentage)
Item 821: $14.40 (58.33% cumulative percentage)
Item 831: $14 (60.42% cumulative percentage)
Item 911: $18 (62.50% cumulative percentage)
Item 678: $23 (64.58% cumulative percentage)
4. Based on the cumulative percentage, categorize the items as follows:
- A-class: The top 20% with the highest cumulative usage value. In our case, it would be only Item 128 with $1500.
- B-class: The next 30% with moderate cumulative usage value. In our case, it would include Item 234 with $1200 and Item 233 with $300.
- C-class: The remaining 50% with the lowest cumulative usage value. In our case, it would include the rest of the items.
Therefore, according to this ABC classification system, Item 128 would be classified as A-class, Item 234 and Item 233 would be classified as B-class, and the rest of the items would be classified as C-class.
B) Pure Plastics can use this information in several ways:
1. Better inventory management: By classifying the items into A, B, and C classes, Pure Plastics can focus their attention on managing and controlling the inventory of A-class items more closely. These items are the most valuable and may require more frequent monitoring and restocking to avoid any shortage or disruption in production.
2. Cost-saving opportunities: By identifying the C-class items that have the lowest cumulative usage value, Pure Plastics can review their inventory levels and potentially reduce the quantity of these items to optimize their storage space and minimize carrying costs. Additionally, they can negotiate better pricing or seek alternative suppliers for these low-value items.
3. Supply chain optimization: Classifying items based on their value can help Pure Plastics prioritize their procurement and production processes. For example, A-class items may require a more reliable and faster supplier, while C-class items may allow for longer lead times or alternative sourcing options.
4. Profitability analysis: Pure Plastics can track the profitability of different classes of items by comparing the sales revenue generated from each class with the associated inventory costs. This analysis can provide insights into the most profitable items and help inform pricing and production decisions.
Overall, the ABC classification system allows Pure Plastics to focus their resources and attention on the most critical items, optimize their inventory levels, and improve their operational efficiency and profitability.