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# Chapter 12

Forecasting

Lecture Outline
Strategic Role of Forecasting in Supply Chain
Management
Components of Forecasting Demand
Time Series Methods
Forecast Accuracy
Time Series Forecasting Using Excel
Regression Methods

## Copyright 2011 John Wiley & Sons, Inc.

12-2

Forecasting
Predicting the future
Qualitative forecast methods
subjective

## Quantitative forecast methods

based on mathematical formulas

12-3

## Supply Chain Management

Accurate forecasting determines inventory levels
in the supply chain
Continuous replenishment

## supplier & customer share continuously updated data

typically managed by the supplier
reduces inventory for the company
speeds customer delivery

## Variations of continuous replenishment

quick response
JIT (just-in-time)
VMI (vendor-managed inventory)
stockless inventory

12-4

## Copyright 2011 John Wiley & Sons, Inc.

12-5

Forecasting
Quality Management
Accurately forecasting customer demand is a key to
providing good quality service

Strategic Planning
Successful strategic planning requires accurate
forecasts of future products and markets

12-6

## Types of Forecasting Methods

Depend on
time frame
demand behavior
causes of behavior

## Copyright 2011 John Wiley & Sons, Inc.

12-7

Time Frame
Indicates how far into the future is forecast
Short- to mid-range forecast
typically encompasses the immediate future
daily up to two years
Long-range forecast
usually encompasses a period of time longer than
two years

## Copyright 2011 John Wiley & Sons, Inc.

12-8

Demand Behavior
Trend
a gradual, long-term up or down movement of demand

Random variations
movements in demand that do not follow a pattern

Cycle
an up-and-down repetitive movement in demand

Seasonal pattern
an up-and-down repetitive movement in demand
occurring periodically
12-9

Demand

Demand

## Forms of Forecast Movement

Random
movement
Time
(b) Cycle

Demand

Demand

Time
(a) Trend

Time
(c) Seasonal pattern

Time
(d) Trend with seasonal pattern
12-10

Forecasting Methods
Time series
statistical techniques that use historical demand data to predict
future demand

Regression methods
attempt to develop a mathematical relationship between demand
and factors that cause its behavior

Qualitative
use management judgment, expertise, and opinion to predict
future demand

12-11

Qualitative Methods
engineering are sources for internal qualitative
forecasts
Delphi method

12-12

Forecasting Process
1. Identify the
purpose of forecast

2. Collect historical
data

## 3. Plot data and identify

patterns

6. Check forecast
accuracy with one or
more measures

5. Develop/compute
forecast for period of
historical data

4. Select a forecast
model that seems
appropriate for data

7.
Is accuracy of
forecast
acceptable?

No

## 8b. Select new

forecast model or
existing model

Yes
8a. Forecast over
planning horizon

information and insight

## 10. Monitor results

and measure forecast
accuracy

12-13

Time Series
Assume that what has occurred in the past will continue
to occur in the future
Relate the forecast to only one factor time
Include
moving average
exponential smoothing
linear trend line

12-14

Moving Average
Naive forecast
demand in current period is used as next periods
forecast

## Simple moving average

uses average demand for a fixed sequence of periods
stable demand with no pronounced behavioral
patterns

## Weighted moving average

weights are assigned to most recent data

## Copyright 2011 John Wiley & Sons, Inc.

12-15

Naive forecasts
We sold 250 wheels last
week.... Now, next week we
should sell.

250 wheels

F(t+1) = At
At : Actual demand in period t
F(t+1) : Forecast of demand for period t+1

MONTH

ORDERS
PER MONTH

Jan

120

Feb

90

Mar

100

Apr

75

May

110

June

50

July

75

Aug

130

Sept

110

Oct

90

Nov

FORECAST
120
90
100
75
110
50
75
130
110
90

12-17

n

i = 1 Di

MAn =

where
n
Di

## Copyright 2011 John Wiley & Sons, Inc.

= number of periods in
the moving average
= demand in period i

12-18

MONTH

ORDERS
PER MONTH

Jan

120

Feb

90

Mar

100

Apr

75

May

110

June

50

July

75

Aug

130

Sept

110

Oct
Nov

90
-

MOVING
AVERAGE

103.3
88.3
95.0
78.3
78.3
85.0
105.0
110.0

i=1

MA3 =

Di

3
=

90 + 110 + 130
3

12-19

ORDERS
MONTH

PER MONTH

Jan

120

Feb

90

Mar

100

Apr

75

May

110

June

50

July

75

Aug

130

Sept

110

Oct
Nov

90
-

## Copyright 2011 John Wiley & Sons, Inc.

MOVING
AVERAGE

99.0
85.0
82.0
88.0
95.0
91.0

i=1

MA5 =
=

Di

90 + 110 + 130+75+50
5
= 91 orders for Nov

12-20

Smoothing Effects
150
125

5-month

Orders

100
75
50
3-month

25
Actual

0
|
Jan

|
Feb

|
Mar

|
Apr

|
May

|
|
June July

|
|
Aug Sept

|
Oct

|
Nov

Month
Copyright 2011 John Wiley & Sons, Inc.

12-21

## Weighted Moving Average

Adjusts moving average method to more closely
reflect data fluctuations
WMAn =

Wi Di

i=1

where

## Wi = the weight for period i,

between 0 and 100
percent

W = 1.00
i

12-22

## Weighted Moving Average Example

MONTH
August
September
October
November Forecast

WEIGHT

DATA

17%
33%
50%

130
110
90

WMA3 = i
= 1 Wi Di

= 103.4 orders

## Copyright 2011 John Wiley & Sons, Inc.

12-23

Exponential Smoothing

Averaging method
Weights most recent data more strongly
Reacts more to recent changes
Widely used, accurate method

## Copyright 2011 John Wiley & Sons, Inc.

12-24

Exponential Smoothing
Ft +1 = Dt + (1 - )Ft
where:
Ft +1 = forecast for next period
Dt =

## Ft = previously determined forecast for

present period
= weighting factor, smoothing constant

12-25

## Effect of Smoothing Constant

0.0 1.0
If = 0.20, then Ft +1 = 0.20Dt + 0.80 Ft
If = 0, then Ft +1 = 0Dt + 1 Ft = Ft
Forecast does not reflect recent data

## If = 1, then Ft +1 = 1Dt + 0 Ft =Dt

Forecast based only on most recent data

12-26

## Exponential Smoothing (=0.30)

PERIOD

MONTH

DEMAND

F2 = D1 + (1 - )F1
1

Jan

37

Feb

40

Mar

41

Apr

37

May

45

Jun

50

Jul

43

Aug

47

Sep

56

10

Oct

52

11

Nov

55

12

Dec

54

## Copyright 2011 John Wiley & Sons, Inc.

= (0.30)(37) + (0.70)(37)
= 37
F3 = D2 + (1 - )F2
= (0.30)(40) + (0.70)(37)
= 37.9
F13 = D12 + (1 - )F12
= (0.30)(54) + (0.70)(50.84)
= 51.79

12-27

Exponential Smoothing
PERIOD

MONTH

DEMAND

1
2
3
4
5
6
7
8
9
10
11
12
13

Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Jan

37
40
41
37
45
50
43
47
56
52
55
54

## Copyright 2011 John Wiley & Sons, Inc.

FORECAST, Ft + 1
( = 0.3)
( = 0.5)

37.00
37.90
38.83
38.28
40.29
43.20
43.14
44.30
47.81
49.06
50.84
51.79

37.00
38.50
39.75
38.37
41.68
45.84
44.42
45.71
50.85
51.42
53.21
53.61

12-28

Exponential Smoothing
70
60

= 0.50

Actual

50

Orders

40
30

= 0.30

20
10
0
|
1

|
2

|
3

|
4

|
5

|
6

|
7

|
8

|
9

|
10

|
11

|
12

|
13

Month
Copyright 2011 John Wiley & Sons, Inc.

12-29

AFt +1 = Ft +1 + Tt +1
where
T = an exponentially smoothed trend factor
Tt +1 = (Ft +1 - Ft) + (1 - ) Tt
where
Tt = the last period trend factor
= a smoothing constant for trend
0

12-30

PERIOD

MONTH

DEMAND

Jan

37

Feb

40

Mar

41

Apr

37

May

45

Jun

50

Jul

43

Aug

47

Sep

56

10

Oct

52

11

Nov

55

12

Dec

54

## Copyright 2011 John Wiley & Sons, Inc.

T3

= (F3 - F2) + (1 - ) T2
= (0.30)(38.5 - 37.0) + (0.70)(0)
= 0.45

= 38.95
T13

## = (F13 - F12) + (1 - ) T12

= (0.30)(53.61 - 53.21) + (0.70)
(1.77)
= 1.36

12-31

PERIOD

MONTH

DEMAND

FORECAST
Ft +1

1
2
3
4
5
6
7
8
9
10
11
12
13

Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Jan

37
40
41
37
45
50
43
47
56
52
55
54

37.00
37.00
38.50
39.75
38.37
38.37
45.84
44.42
45.71
50.85
51.42
53.21
53.61

## Copyright 2011 John Wiley & Sons, Inc.

TREND
Tt +1

FORECAST AFt +1

0.00
0.45
0.69
0.07
0.07
1.97
0.95
1.05
2.28
1.76
1.77
1.36

37.00
38.95
40.44
38.44
38.44
47.82
45.37
46.76
58.13
53.19
54.98
54.96
12-32

Forecasts
70

60

Actual

50

Demand

40
30
Forecast ( = 0.50)

20
10
0
|
1

|
2

|
3

|
4

|
5

|
|
6
7
Period

|
8

|
9

|
10

|
11

|
12

|
13
12-33

## Linear Trend Line

y = a + bx
where
a = intercept
b = slope of the line
x = time period
y = forecast for
demand for period x

## Copyright 2011 John Wiley & Sons, Inc.

xy - nxy
b = x2 - nx2
a = y-bx
where
n = number of periods
x
x = n = mean of the x values
y
y = n = mean of the y values

12-34

x(PERIOD)

y(DEMAND)

xy

x2

1
2
3
4
5
6
7
8
9
10
11
12

73
40
41
37
45
50
43
47
56
52
55
54

37
80
123
148
225
300
301
376
504
520
605
648

1
4
9
16
25
36
49
64
81
100
121
144

78

557

3867

650

12-35

## Least Squares Example

x = 78 = 6.5
12
y = 557 = 46.42
12
b = xy - nxy = 3867 - (12)(6.5)(46.42) =1.72
x2 - nx2
650 - 12(6.5)2
a = y - bx
= 46.42 - (1.72)(6.5) = 35.2

12-36

## Linear trend line y = 35.2 + 1.72x

Forecast for period 13 y = 35.2 + 1.72(13) = 57.56 units
70
60
Actual

Demand

50
40
30

20
10
|
1

|
2

|
3

## Copyright 2011 John Wiley & Sons, Inc.

|
4

|
5

|
|
6
7
Period

|
8

|
9

|
10

|
11

|
12

|
13

12-37

Repetitive increase and decrease in demand
Use seasonal factor to adjust forecast
Holiday season: toys, sport equipments,
clothing, wine, fruit, etc.

Seasonal factor = Si =

Di
D

12-38

YEAR
2002
2003
2004
Total

1
2
3
4
Total
12.6
14.1
15.3
42.0

8.6
10.3
10.6
29.5

D1

42.0
S1 =
=
= 0.28
D 148.7
D2

29.5
S2 =
=
= 0.20
148.7
D

## Copyright 2011 John Wiley & Sons, Inc.

6.3
7.5
8.1
21.9

17.5
18.2
19.6
55.3

45.0
50.1
53.6
148.7

D3

21.9
S3 =
=
= 0.15
D 148.7
D4

55.3
S4 =
=
= 0.37
148.7
D

12-39

For 2005
y = 40.97 + 4.30x = 40.97 + 4.30(4) = 58.17
SF1 = (S1) (F5) = (0.28)(58.17) = 16.28
SF2 = (S2) (F5) = (0.20)(58.17) = 11.63
SF3 = (S3) (F5) = (0.15)(58.17) = 8.73
SF4 = (S4) (F5) = (0.37)(58.17) = 21.53

## Copyright 2011 John Wiley & Sons, Inc.

12-40

Forecast Accuracy
Forecast error
difference between forecast and actual demand

mean absolute deviation

MAPD
mean absolute percent deviation

Cumulative error
Average error or bias

## Copyright 2011 John Wiley & Sons, Inc.

12-41

Dt - Ft
n
where

t = period number
Dt = demand in period t
Ft = forecast for period t
n = total number of periods
= absolute value

12-42

PERIOD
1
2
3
4
5
6
7
8
9
10
11
12

DEMAND, Dt

Ft ( =0.3)

(Dt - Ft)

|Dt - Ft|

37
40
41
37
45
50
43
47
56
52
55
54

37.00
37.00
37.90
38.83
38.28
40.29
43.20
43.14
44.30
47.81
49.06
50.84

3.00
3.10
-1.83
6.72
9.69
-0.20
3.86
11.70
4.19
5.94
3.15

3.00
3.10
1.83
6.72
9.69
0.20
3.86
11.70
4.19
5.94
3.15

49.31

53.39

557

12-43

Dt - Ft
n
53.39
=
11
= 4.85

12-44

## Other Accuracy Measures

Mean absolute percent deviation (MAPD)
MAPD =

|Dt - Ft|
Dt

Cumulative error
E = et
Average error

et

E= n
Copyright 2011 John Wiley & Sons, Inc.

12-45

Comparison of Forecasts
FORECAST

MAPD

(E)

## Exponential smoothing (= 0.30)

Exponential smoothing (= 0.50)
(= 0.50, = 0.30)
Linear trend line

4.85
4.04
3.81

9.6%
8.5%
7.5%

49.31
33.21
21.14

4.48
3.02
1.92

2.29

4.9%

## Copyright 2011 John Wiley & Sons, Inc.

12-46

Forecast Control
Tracking signal
monitors the forecast to see if it is biased high or low
Control limits of 2 to 5 MADs are used most
frequently

Tracking signal =

(Dt - Ft)

E

12-47

## Tracking Signal Values

PERIOD

DEMAND
Dt

FORECAST,
Ft

1
2
3
4
5
6
7
8
9
10
11
12

37
40
41
37
45
50
43
47
56
52
55
54

37.00
37.00
37.90
38.83
38.28
40.29
43.20
43.14
44.30
47.81
49.06
50.84

TS3 =
Copyright 2011 John Wiley & Sons, Inc.

ERROR
Dt - Ft

3.00
3.10
-1.83
6.72
9.69
-0.20
3.86
11.70
4.19
5.94
3.15

E =
(Dt - Ft)

3.00
6.10
4.27
10.99
20.68
20.48
24.34
36.04
40.23
46.17
49.32

3.00
3.05
2.64
3.66
4.87
4.09
4.06
5.01
4.92
5.02
4.85

TRACKING
SIGNAL

1.00
2.00
1.62
3.00
4.25
5.01
6.00
7.19
8.18
9.20
10.17

6.10
= 2.00
3.05
12-48

3
2

1
0
-1
-2
-3

|
0

|
1

|
2

|
3

|
4

|
5

|
6
Period

|
7

|
8

|
9

|
10

|
11

|
12

12-49

(Dt - Ft)2
n-1

## Using we can calculate statistical

control limits for the forecast error
Control limits are typically set at 3

12-50

18.39
12.24

UCL = +3

Errors

6.12
0
-6.12

-12.24
-18.39
LCL = -3
|
0

|
1

|
2

|
3

|
4

|
5

|
6
Period

|
7

|
8

|
9

|
10

|
11

|
12

12-51

## Time Series Forecasting Using Excel

Excel can be used to develop forecasts:

Moving average
Exponential smoothing
Linear trend line

## Copyright 2011 John Wiley & Sons, Inc.

12-52

Exponentially Smoothed Forecasts
=B5*(C11-C10)+
(1-B5)*D10

=C10+D10
=ABS(B10-E10)

=SUM(F10:F20)

=G22/11
Copyright 2011 John Wiley & Sons, Inc.

12-53

## Demand and Exponentially Smoothed

Forecast
Click on Insert then Line

12-54

12-55

12-56

## Copyright 2011 John Wiley & Sons, Inc.

12-57

Regression Methods
Linear regression
mathematical technique that relates a dependent
variable to an independent variable in the form of a
linear equation

Correlation
a measure of the strength of the relationship between
independent and dependent variables

## Copyright 2011 John Wiley & Sons, Inc.

12-58

Linear Regression
y = a + bx

a = y-bx
xy - nxy
b = x2 - nx2
where
a = intercept
b = slope of the line
x
x = n = mean of the x data
y
y = n = mean of the y data

12-59

x
(WINS)

y
(ATTENDANCE)

xy

x2

4
6
6
8
6
7
5
7

36.3
40.1
41.2
53.0
44.0
45.6
39.0
47.5

145.2
240.6
247.2
424.0
264.0
319.2
195.0
332.5

16
36
36
64
36
49
25
49

49

346.7

2167.7

311

12-60

## Linear Regression Example

49
= 6.125
8
346.9
y=
= 43.36
8
x=

xy - nxy2
b=
x2 - nx2
(2,167.7) - (8)(6.125)(43.36)
=
(311) - (8)(6.125)2
= 4.06
a = y - bx
= 43.36 - (4.06)(6.125)
= 18.46
Copyright 2011 John Wiley & Sons, Inc.

12-61

60,000
50,000

Attendance, y

40,000
30,000

## Linear regression line, y

= 18.46 + 4.06x
Attendance forecast for 7 wins

20,000
10,000

|
0

y = 18.46 + 4.06(7)
= 46.88, or 46,880
|
1

|
2

|
3

|
4

|
5

|
6

|
7

|
8

|
9

|
10

Wins, x
Copyright 2011 John Wiley & Sons, Inc.

12-62

## Correlation and Coefficient of

Determination
Correlation, r
Measure of strength of relationship
Varies between -1.00 and +1.00

Coefficient of determination, r2
Percentage of variation in dependent variable
resulting from changes in the independent variable

## Copyright 2011 John Wiley & Sons, Inc.

12-63

Computing Correlation
r=

n xy - x y
[n x2 - ( x)2] [n y2 - ( y)2]
(8)(2,167.7) - (49)(346.9)

r=

## [(8)(311) - (49)2] [(8)(15,224.7) - (346.9)2]

r = 0.947
Coefficient of determination
r2 = (0.947)2 = 0.897

12-64

## Regression Analysis With Excel

=INTERCEPT(B5:B12,A5:A12)

=SUM(B5:B12)

## Copyright 2011 John Wiley & Sons, Inc.

=CORREL(B5:B12,A5:A12)
12-65

12-66

## Copyright 2011 John Wiley & Sons, Inc.

12-67

Multiple Regression
Study the relationship of demand to two or more
independent variables
y = 0 + 1x1 + 2x2 + kxk
where
0
= the intercept
1, , k = parameters for the
independent variables
x1, , xk = independent variables
Copyright 2011 John Wiley & Sons, Inc.

12-68

of determination

## Copyright 2011 John Wiley & Sons, Inc.

Regression equation
coefficients for x1 and x2

12-69

## Multiple Regression Example

y = 19,094.42 + 3560.99 x1 + .0368 x2

= 46,229.35

12-70

## Copyright 2011 John Wiley & Sons, Inc.

work beyond that permitted in section 117 of the 1976
United States Copyright Act without express permission
of the copyright owner is unlawful. Request for further
information should be addressed to the Permission
Department, John Wiley & Sons, Inc. The purchaser
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responsibility for errors, omissions, or damages caused
by the use of these programs or from the use of the
information herein.

12-71

## Auto sales at Carmens Chevrolet are

shown below.
Develop a 3-week moving average.
Auto Sales

Week
1

10

11

10

13

## demand in previous n periods

Moving average =
n

Week Auto
Sales

Three-Week Moving
Average

10

11

(8 + 9 + 10) / 3 = 9

10

(10 + 9 + 11) / 3 = 10

13

(9 + 11 + 10) / 3 = 10

## Carmens decides to forecast auto

sales by weighting the three weeks as
follows:
Weights Period
Applied
3

Last week

Total

weights

Week

Auto
Sales

10

11

10

13

## [(3*13) + (2*10) + (1*11)] / 6 = 11 2/3

Exponential smoothing

Smoothing constant

.2

.05

Example 1

## Ft Ft 1 ( A t 1 Ft 1 ) 500 0.1( 450 500) 495 units

Example 2

Month

Actual
Battery Sales

Forecast

January

20

22

February

21

March

15

April

14

May

13

June

16

Example 3
Given the forecast demand and actual
demand for 10-foot fishing boats, compute
Year

Forecast Demand

Actual Demand

78

71

75

80

83

101

84

84

88

60

85

73

Forecast errors