FORECASTING

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Forecasting
 The art and science of predicting future
events.
 Forecasting will almost always be wrong.
 In recognition of inherent errors, all
forecasts should have at least two numbers;
one for the best estimate of demand and
one for forecasting error (e.g. standard
deviation, absolute deviation and range).

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Forecasting
 It’s the underlying basis of all business
decisions; production, inventory, personnel
inventory, and facilities.

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Types of Forecasting
 Qualitative Methods
 Rely on managerial judgment
 Do not use specific models
 Used when situation is vague and little data
exists. (e.g. forecasting sales on the
internet)

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Types of Forecasting
 Quantitative Methods
 Two types which rely on statistical
analysis, namely Time-Series and Casual
forecasting.
 Used when situation ‘stable’ and historical
data exists. (e.g. forecasting sales of colour
television)

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Quantitative Forecasting

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Qualitative
Forecasting

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Qualitative Forecasting
Methods:-
 They utilize managerial judgment,
experience, relevant data and an implicit
mathematical model.

 They should be used when past data are not

reliable indicators of future conditions for
new products and when historical database
is not available.

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Delphi Method/ Technique
 Forecasting developed by a panel of
experts answering a series of questions on
successive rounds.
 Anonymous responses are fed back into the
discussion for all participants. 3 to 6 rounds
may be used to obtain convergence of the
forecast.

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Delphi Method/ Technique
 Used for long range sales forecasts for
capacity planning. Technological
forecasting to assess when technological
changes might occur.

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Market Survey
 Panels, questionnaires, test markets or
surveys used to gather data on market
conditions.

 Used to forecast total company sales, major

product groups, or individual products.

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Life-Cycle Analogy
 Prediction based on the introduction,
growth, and saturation phases of similar
products. Uses the S-shaped sales growth
curve.

 Used in forecast of long range sales for

capacity or facility planning.

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Informed Judgment
 Forecast may be made by a group or
individual on the basis of experience,
hunches, or facts about the situation. No
rigorous method is used.

 Used for forecasts for total sales and

individual products.

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 Quantitative
Forecasting
(TIME-SERIES FORECASTING)

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Time-Series Forecasting
 A set of evenly spaced numerical data.
 Forecast based on past values
 Example,

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Time-Series Forecasting
 Used to make detailed analysis of past
demand patterns over time and to project
these patterns forward into the future.

 One of the basic assumptions of all time-

series methods is that demand can be
divided into components such as average
level, trend, seasonality, cycle and error.

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Time Series Components

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Trend Component
 Persistent, overall upward or downward
pattern
 Due to population, technology, etc.
 Several years duration.

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Cyclical Component
 Repeating up and down movements.
 Due to interactions of factors influencing
the economy.
 Usually 2 – 10 years duration

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Seasonal Components
 Regular pattern of up and down
fluctuations.
 Influenced by the weather, customs, etc.
 Occurs within 1 year.

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Irregular Component
 Erratic, unsystematic fluctuations
 Due to random variation or unforeseen
events, e.g. union strike, hurricanes
 Short duration and non repeating

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Moving Average
 For this method it is assumed that the time-
series has only a level component and a
random component.

 The forecast is the average of the previous

periods.

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Moving Average
 One way to make the moving average
respond more rapidly to changes in demand
it to place relatively more weight on recent
demands than on earlier ones.

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Exponential Smoothing
 Based on the idea that new average can be
computed from the old average and the
most recent observed on demand.

 In simple exponential smoothing the

assumption is that the time-series is flat
with no cycles and there are no seasonal or
trend components

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Other Time-Series Methods
 Mathematical Model
 A linear or non-linear model fitted to a
time-series data, usually by regression
methods.
 Includes trend lines, polynomials, log-
linear, Fourier-series

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Other Time-Series Methods
 Autocorrelation methods are used to
identify underlying time-series and to fit
the ‘best’ model.

 Requires about 60 past data points.

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Casual Forecasting
 Involves development of a cause-and-effect
model between demand and other
variables.
 Example, the demand of ice cream related
to the average summer temperature.
 Some casual methods are regression,
econometric model, Input-output model
and simulation model.

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 Additional
Information

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Forecasting Errors
 To set safety stocks or capacity and thereby
ensure a desired level of protection against stock-
out.
 To monitor erratic demand observation or outliers
which should be carefully evaluated perhaps
rejected from the data.
 To determine when forecasting method is no
longer tracking actual demand and needs to be
reset.
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Methods of measuring
Forecasting Errors
 Cumulative Sum of Forecast Errors (FFE)
 Mean Square Error, MSE (Standard
Deviation)
 Mean Absolute Deviation (MAD)
 Mean Absolute Percentage Errors (MAPE)

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Selecting a Forecasting Method
 User and system sophistication match.
 Time and resources available.
 Use and decision characteristics.
 Data available.
 Data pattern

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