Inventory categorization is done using ABC analysis. The ABC analysis is a method through which inventories are arranged as per their value or importance in terms of revenue generation. As a result, the inventory is divided into three groups (A, B, and C) according to the estimated importance of each.
‘A' items are the most important or high-revenue-generating items and require frequent attention. Items in “B” are significant, but they are, of course, less significant than those in “A” and more significant than those in “C.” ”'C” items are marginally important items.
“The Pareto Principle,” also known as the 80/20 rule, serves as the basis for ABC analysis. This principle states that 20% of the valuable efforts produce 80% of the total output.
Therefore, A demands strict control because 20% of its items generate 80% of its total revenue; B has 30% of its items generate 15% of its revenue; and C has 50% of its items generate at least 5% of its total revenue, making it the most liberal.