Computers & Operations Research 33 (2006) 695 700

www.elsevier.com/locate/cor

ABC inventory classication with multiple-criteria using weighted linear optimization

Ramakrishnan Ramanathan
Operations Management and Business Statistics, College of Commerce and Economics, Sultan Qaboos University, Post Box 20, Postal Code 123, Sultanate of Oman, Oman Available online 24 August 2004

Abstract Inventory classication using ABC analysis is one of the most widely employed techniques in organizations. The need to consider multiple criteria for inventory classication has been stressed in the literature. A simple classication scheme is proposed in this paper using weighed linear optimization. The methodology is illustrated using an example. 2004 Elsevier Ltd. All rights reserved.
Keywords: ABC Inventory classication; Multiple criteria; Weighted linear optimization

1. Introduction Inventory classication using ABC analysis is one of the most widely employed techniques in organizations. This classication is based on the Pareto principle. ABC analysis is easy to use and simple to understand by an average materials manager. Normally, the items are classied based on the annual use value, which is the product of annual demand and average unit price. Class A items are relatively few in number but constitute a relatively large amount of annual use value, while class C items are relatively large in number but constitute a relatively small amount of annual use value. Items between the above two classes constitute class B, though some studies claim that there is no need to include this class in

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R. Ramanathan / Computers & Operations Research 33 (2006) 695 700

the analysis [1]. Class A items have to be controlled tightly and monitored closely. Textbooks such as Silver et al. [2] provide more details on inventory control policies for these classes of items. ABC analysis is successful only when the inventory being classied is fairly homogeneous and the main difference among the items is in its annual use value (computed from unit price and demand volume). In practice, an organization of even moderate size has to control thousands of inventory items and they need not be very homogeneous. As more and more customers demand a wide range of products, the need to increase the variety of inventory items is also increasing. Thus, it has been generally recognized that the traditional ABC analysis may not be able to provide a good classication of inventory items in practice [35]. There are many instances when other criteria, other than the annual use value, become important [3] in deciding the importance of an inventory item. This problem of multi-criteria inventory classication (MCIC) has been addressed by some studies in the literature. Some of the criteria considered in the literature include inventory cost, part criticality, lead time, commonality, obsolescence, substitutability, number of requests for the item in a year, scarcity, durability, substitutability, repairability, order size requirement, stockability, demand distribution, and stock-out penalty cost [1,3,58]. Complex computational tools are needed for multi-criteria ABC classication. Flores et al. [9] provide a matrix-based methodology. A joint criteria matrix is developed in the case of two criteria. However, the methodology is relatively difcult to use when more criteria have to be considered. Several multiplecriteria decision-making (MCDM) tools have also been employed for the purpose. Cohen and Ernst [10] and Ernst and Cohen [11] have used cluster analysis to group similar items. The analytic hierarchy process (AHP) [17] has been employed in many MCIC studies [9,1214]. When AHP is used, the general idea is to derive a single scalar measure of importance of inventory items by subjectively rating the criteria and/or the inventory items [9,3]. The single most important issue associated with AHP-based studies is the subjectivity involved in the analysis. Heuristic approaches based on articial intelligence, such as genetic algorithms [3] and articial neural networks [5], have also been applied to address the MCIC problem. Clearly, these approaches are heuristics and need not provide optimal solutions at all environments. In this paper, we propose a simple weighted linear optimization model to address the MCIC problem.

2. Model development Assume that there are N inventory items, and that the items have to be classied as A, B or C based on their performance in terms of J criteria. In particular, let the performance of mth inventory item in terms of each of the criteria be denoted as ymj . Let us further assume that all the criteria are positively related to the importance level of the itemi.e., the larger the score of an item in terms of these criteria, the greater is the chance that the item be classied as an A-Class item. This assumption is made because most of the criteria used in inventory classication [13,58] are positively related. Even if there are inversely related criteria, reciprocals of the scores could be used to make them positive criteria. In the proposed approach, a weighted additive function is used to aggregate the performance of an inventory item in terms of different criteria to a single score, called the optimal inventory score of an item. The weights are chosen using optimization subject to the constraints that the weighted sum, computed using the same set of weights, for all the items must be less than or equal to one. The model

R. Ramanathan / Computers & Operations Research 33 (2006) 695 700

697

is shown below:
J

max
j =1 J j =1

vmj ymj , vmj ynj 1, n = 1, 2, . . . , N, (Model 1)

vmj

0, j = 1, 2, . . . , J.

The model uses a maximization objective function as all the criteria are assumed to be positively related to the importance level of an item. The model, when solved, gives the optimal inventory score for the mth item. To get the optimal scores of other inventory items, Model (1) should be solved repeatedly by changing the objective function. These scores can then be used to classify the inventory items. It is worth pointing out the similarities of Model (1) with a class of linear programming models used in data envelopment analysis (DEA) [15]. An output maximizing multiplier DEA model with many outputs and a constant input will reduce to Model (1). 2.1. An illustration The weighted additive model is applied in this section for classifying inventory using the data provided in Flores et al. [9]. The article used data on traditional ABC inventory classication presented in Reid [16] and applied a multi-criteria classication methodology based on AHP. The ABC classication in Flores et al. [9] was based on four criteria, namely, average unit cost, annual dollar usage, critical factor (1 for a very critical item, 0.01 for a non-critical item and 0.50 for a moderately critical item), and lead time (ranging from 1 to 7 weeks). The data are shown in Table 1. Note that all the four criteria are positively related to the importance level of inventory items. As mentioned earlier, the optimal inventory scores for all the 47 inventory items are computed using Model (1) repeatedly by changing the objective function for each item. In order to get the same distribution of 10 class A items, 14 class B items and 23 class C items, inventory items with optimal efciency scores of 86% and above are classied as class A items, items with scores of 60% and below are classied as class C items, while items with scores between 86% and 60% are classied as class B items. Note that the classication using AHP is based on weights of 0.079, 0.091, 0.420 and 0.410, respectively, for the four criteria [9]. Thus weights for the rst two criteria (average unit cost and annual dollar usage) are much smaller than the weights for the remaining two criteria (critical factor and lead time). As shown in Table 1, the ABC classication using Model (1) provides different results compared with the traditional (i.e., based on annual dollar usage) and AHP-based classication. Model (1) results coincide with the other two classication schemes for about 40% of the items. The difference could be because of the underlying assumption behind the methods. For example, consider Item S4. This item is considered as a class A item based on annual dollar usage as it has one of the highest annual dollar usage. It has been classied as a class A item by Model (1) as well, for the same reason. However, Item S4 is classied as class C item by the AHP-based method because of the weighting scheme adopted in the method (that provides lower weight for annual dollar usage). Item S14 is classied by Model (1) as a class A item as it has one of the highest values in terms of average unit cost and lead time, but the same item is classied as a class B item by the classication based on annual dollar usage as it has a moderate value in terms of annual dollar usage. Item S14 is classied as a class B item by the AHP-based method because of the nature of weighting scheme adopted.

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R. Ramanathan / Computers & Operations Research 33 (2006) 695 700

Table 1 A comparison of ABC classication using optimal inventory score of the proposed model (Model 1), annual dollar usage, and AHP methodologies Item no. Average unit cost ($) Annual dollar usage ($) Critical factor Lead time Optimal inventory score (%) ABC classication using Optimal inventory score score S4 S14 S18 S29 S34 S45 S15 S16 S28 S19 S40 S17 S31 S33 S23 S37 S39 S43 S47 S20 S21 S22 S27 S1 S24 S26 S38 S35 S2 S36 S30 S6 S44 S46 S32 S25 S10 S7 S5 27.73 110.4 49.5 134.34 7.07 34.4 71.2 45 78.4 47.5 51.68 14.66 72 49.48 86.5 30 59.6 29.89 8.46 58.45 24.4 65 84.03 49.92 33.2 33.84 67.4 60.6 210 40.82 56 31.24 48.3 28.8 53.02 37.05 160.5 28.2 57.98 4769.56 883.2 594 268.68 190.89 34.4 854.4 810 313.6 570 103.36 703.68 216 197.92 432.5 150 119.2 59.78 25.38 467.6 463.6 455 336.12 5840.64 398.4 338.4 134.8 181.8 5670 163.28 224 2936.67 48.3 28.8 212.08 370.5 2407.5 2820 3478.8 0.01 0.5 0.5 0.01 0.01 0.01 1 0.5 0.01 0.5 0.01 0.5 0.5 0.01 1 0.01 0.01 0.01 0.01 0.5 1 0.5 0.01 1 1 0.01 0.5 0.01 1 1 0.01 0.5 0.01 0.01 1 0.01 0.5 0.5 0.5 1 5 6 7 7 7 3 3 6 5 6 4 5 5 4 5 5 5 5 4 4 4 1 2 3 3 3 3 5 3 1 3 3 3 2 1 4 3 3 100.0 100.0 100.0 100.0 100.0 100.0 96.8 91.7 89.0 86.6 85.7 79.9 72.4 71.7 71.5 71.4 71.4 71.4 71.4 69.9 69.7 69.4 67.1 61.9 54.4 51.8 50.2 46.7 45.1 44.9 44.7 42.9 42.9 42.9 42.4 41.9 40.4 37.8 30.8 A A A A A A A A A A B B B B B B B B B B B B B B C C C C C C C C C C C C C C C Annual dollar usage A B B C C C B B C B C B C C B C C C C B B B C A B C C C A C C A C C C C A A A AHP weighted score C B A B C B A C C B C B B C A C C C C B A B C A A C C C A B C C C C B C B C B

R. Ramanathan / Computers & Operations Research 33 (2006) 695 700 Table 1 (continued) Item no. Average unit cost ($) Annual dollar usage ($) Critical factor Lead time Optimal inventory score (%) ABC classication using Optimal inventory score score S41 19.8 79.2 0.01 2 28.7 C S42 37.7 75.4 0.01 2 28.6 C S8 55 2640 0.01 4 26.7 C S9 73.44 2423.52 1 6 16.4 C S11 5.12 1075.2 1 2 12.0 C S13 86.5 1038 1 7 9.8 C S3 23.76 5037.12 1 4 5.4 C S12 20.87 1043.5 0.5 5 4.0 C Source for the data and classications based on annual dollar usage and AHP: Ref. [9] Annual dollar usage C C A A B B A B

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AHP weighted score C C C A B A A B

3. Summary A weighted linear optimization model has been proposed and illustrated in this paper for classifying inventory items in the presence of multiple criteria. It is a very simple model that can be easily understood by inventory managers. The model is similar to linear programming models employed in data envelopment analysis. References
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