Demand Forecasting: Concept, Significance, Objectives and Factors

An organization faces several internal and external risks, such as high

competition, failure of technology, labor unrest, inflation, recession, and
change in government laws.

Therefore, most of the business decisions of an organization are made under

the conditions of risk and uncertainty.

An organization can lessen the adverse effects of risks by determining the

demand or sales prospects for its products and services in future. Demand
forecasting is a systematic process that involves anticipating the demand for
the product and services of an organization in future under a set of
uncontrollable and competitive forces.

Some of the popular definitions of demand forecasting are as follows:

According to Evan J. Douglas, “Demand estimation (forecasting) may be

defined as a process of finding values for demand in future time periods.”

In the words of Cundiff and Still, “Demand forecasting is an estimate of sales

during a specified future period based on proposed marketing plan and a set of
particular uncontrollable and competitive forces.”

Demand forecasting enables an organization to take various business

decisions, such as planning the production process, purchasing raw materials,
managing funds, and deciding the price of the product. An organization can
forecast demand by making own estimates called guess estimate or taking the
help of specialized consultants or market research agencies. Let us discuss the
significance of demand forecasting in the next section.

Significance of Demand Forecasting:

Demand plays a crucial role in the management of every business. It helps an
organization to reduce risks involved in business activities and make important
business decisions. Apart from this, demand forecasting provides an insight
into the organization’s capital investment and expansion decisions.

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The significance of demand forecasting is shown in the following points:

i. Fulfilling objectives:

Implies that every business unit starts with certain pre-decided objectives.
Demand forecasting helps in fulfilling these objectives. An organization
estimates the current demand for its products and services in the market and
move forward to achieve the set goals.

For example, an organization has set a target of selling 50, 000 units of its
products. In such a case, the organization would perform demand forecasting
for its products. If the demand for the organization’s products is low, the
organization would take corrective actions, so that the set objective can be
achieved.

ii. Preparing the budget:

Plays a crucial role in making budget by estimating costs and expected

revenues. For instance, an organization has forecasted that the demand for its
product, which is priced at Rs. 10, would be 10, 00, 00 units. In such a case,
the total expected revenue would be 10* 100000 = Rs. 10, 00, 000. In this way,
demand forecasting enables organizations to prepare their budget.

iii. Stabilizing employment and production:

Helps an organization to control its production and recruitment activities.

Producing according to the forecasted demand of products helps in avoiding
the wastage of the resources of an organization. This further helps an
organization to hire human resource according to requirement. For example, if
an organization expects a rise in the demand for its products, it may opt for
extra labor to fulfill the increased demand.

iv. Expanding organizations:

Implies that demand forecasting helps in deciding about the expansion of the
business of the organization. If the expected demand for products is higher,
then the organization may plan to expand further. On the other hand, if the
demand for products is expected to fall, the organization may cut down the
investment in the business.

v. Taking Management Decisions:

Helps in making critical decisions, such as deciding the plant capacity,

determining the requirement of raw material, and ensuring the availability of
labor and capital.

vi. Evaluating Performance:

Helps in making corrections. For example, if the demand for an organization’s

products is less, it may take corrective actions and improve the level of demand
by enhancing the quality of its products or spending more on advertisements.

vii. Helping Government:

Enables the government to coordinate import and export activities and plan
international trade.

Objectives of Demand Forecasting:

Demand forecasting constitutes an important part in making crucial business
decisions.

The objectives of demand forecasting are divided into short and long-term
objectives, which are :

i. Short-term Objectives:

Include the following:

a. Formulating production policy:

Helps in covering the gap between the demand and supply of the product. The
demand forecasting helps in estimating the requirement of raw material in
future, so that the regular supply of raw material can be maintained. It further
helps in maximum utilization of resources as operations are planned according
to forecasts.
b. Formulating price policy:

Refers to one of the most important objectives of demand forecasting. An

organization sets prices of its products according to their demand. For
example, if an economy enters into depression or recession phase, the demand
for products falls. In such a case, the organization sets low prices of its
products.

c. Controlling sales:

Helps in setting sales targets, which act as a basis for evaluating sales
performance. An organization make demand forecasts for different regions and
fix sales targets for each region accordingly.

d. Arranging finance:

Implies that the financial requirements of the enterprise are estimated with the
help of demand forecasting. This helps in ensuring proper liquidity within the
organization.

ii. Long-term Objectives:

Include the following:

a. Deciding the production capacity:

Implies that with the help of demand forecasting, an organization can

determine the size of the plant required for production. The size of the plant
should conform to the sales requirement of the organization.

b. Planning long-term activities:

Implies that demand forecasting helps in planning for long term. For example,
if the forecasted demand for the organization’s products is high, then it may
plan to invest in various expansion and development projects in the long term.
Factors Influencing Demand Forecasting:
Demand forecasting is a proactive process that helps in determining what
products are needed where, when, and in what quantities. There are a number
of factors that affect demand forecasting.

Some of the factors that influence demand forecasting are shown in

i. Types of Goods:

Affect the demand forecasting process to a larger extent. Goods can be

producer’s goods, consumer goods, or services. Apart from this, goods can be
established and new goods. Established goods are those goods which already
exist in the market, whereas new goods are those which are yet to be
introduced in the market.

ii. Competition Level:

Influence the process of demand forecasting. In a highly competitive market,

demand for products also depend on the number of competitors existing in the
market. Moreover, in a highly competitive market, there is always a risk of new
entrants. In such a case, demand forecasting becomes difficult and
challenging.

iii. Price of Goods:

Acts as a major factor that influences the demand forecasting process. The
demand forecasts of organizations are highly affected by change in their pricing
policies. In such a scenario, it is difficult to estimate the exact demand of
products.

iv. Level of Technology:

Constitutes an important factor in obtaining reliable demand forecasts. If there

is a rapid change in technology, the existing technology or products may
become obsolete. For example, there is a high decline in the demand of floppy
disks with the introduction of compact disks (CDs) and pen drives for saving
data in computer. In such a case, it is difficult to forecast demand for existing
products in future.
v. Economic Viewpoint:

Play a crucial role in obtaining demand forecasts. For example, if there is a

positive development in an economy, such as globalization and high level of
investment, the demand forecasts of organizations would also be positive.

Apart from aforementioned factors, following are some of the other

important factors that influence demand forecasting:

a. Time Period of Forecasts:

Act as a crucial factor that affect demand forecasting. The accuracy of demand
forecasting depends on its time period.

Forecasts can be of three types,

1. Short Period Forecasts:

2. Long Period Forecasts:

3. Very Long Period Forecasts:

4. Level of Forecasts:

Influences demand forecasting to a larger extent. A demand forecast can be

carried at three levels, namely, macro level, industry level, and firm level. At
macro level, forecasts are undertaken for general economic conditions, such as
industrial production and allocation of national income. At the industry level,
forecasts are prepared by trade associations and based on the statistical data.

5. Nature of Forecasts:

Constitutes an important factor that affects demand forecasting. A forecast can

be specific or general. A general forecast provides a global picture of business
environment, while a specific forecast provides an insight into the business
environment in which an organization operates. Generally, organizations opt
for both the forecasts together because over-generalization restricts accurate
estimation of demand and too specific information provides an inadequate
basis for planning and execution.
Steps of Demand Forecasting:

The Demand forecasting process of an organization can be effective only when

it is conducted systematically and scientifically.

The steps involved in demand forecasting:

1. Setting the Objective:

Refers to first and foremost step of the demand forecasting process. An

organization needs to clearly state the purpose of demand forecasting before
initiating it.

2. Determining Time Period:

Involves deciding the time perspective for demand forecasting. Demand can be
forecasted for a long period or short period. In the short run, determinants of
demand may not change significantly or may remain constant, whereas in the
long run, there is a significant change in the determinants of demand.

3. Selecting a Method for Demand Forecasting:

Constitutes one of the most important steps of the demand forecasting process
Demand can be forecasted by using various methods. The method of demand
forecasting differs from organization to organization depending on the purpose
of forecasting, time frame, and data requirement and its availability.

4. Collecting Data:

Requires gathering primary or secondary data. Primary’ data refers to the data
that is collected by researchers through observation, interviews, and
questionnaires for a particular research.
5. Estimating Results:

Involves making an estimate of the forecasted demand for predetermined years.

The results should be easily interpreted and presented in a usable form. The
results should be easy to understand by the readers or management of the
organization.

Materials management
is a core supply chain function and includes supply chain planning and
supply chain execution capabilities. Specifically, materials management is the
capability firms use to plan total material requirements. The material
requirements are communicated to procurement and other functions for
sourcing. Materials management is also responsible for determining the
amount of material to be deployed at each stocking location across the supply
chain, establishing material replenishment plans, determining inventory levels
to hold for each type of inventory (raw, WIP, Finished Goods), and
communicating information regarding material needs throughout the extended
supply chain.

Typical roles in Materials Management include: Materials Manager, Inventory

Control Manager, Inventory Analyst, Material Planner, Expediter and emerging
hybrid roles like "buyer planner".

The primary business objective of Materials Management is assured supply of

material, optimum inventory levels a Supply chain materials management
areas of concentration
Goals
The goal of materials management is to provide an unbroken chain of
components for production to manufacture goods on time for customers. The
materials department is charged with releasing materials to a supply base,
ensuring that the materials are delivered on time to the company using the
correct carrier. Materials is generally measured by accomplishing on time
delivery to the customer, on time delivery from the supply base, attaining a
freight, budget, inventory shrink management, and inventory accuracy. The
materials department is also charged with the responsibility of managing new
launches.
In some companies materials management is also charged with the
procurement of materials by establishing and managing a supply base. In other
companies the procurement and management of the supply base is the
responsibility of a separate purchasing department. The purchasing
department is then responsible for the purchased price variances from the
supply base.

In large companies with multitudes of customer changes to the final product

there may be a separate logistics department that is responsible for all new
acquisition launches and customer changes. This logistics department ensures
that the launch materials are procured for production and then transfers the
responsibility to the plant materials management

planning (MRP) is a production planning, scheduling, and inventory control

system used to manage manufacturing processes. Most MRP systems are
software-based, but it is possible to conduct MRP by hand as well.

An MRP system is intended to simultaneously meet three objectives:

 Ensure materials are available for production and products are available
for delivery to customers.
 Maintain the lowest possible material and product levels in store
 Plan manufacturing activities, delivery schedules and purchasing
activities. Prior to MRP, and before computers dominated industry,
reorder point (ROP)/reorder-quantity (ROQ) type methods like EOQ
(economic order quantity) had been used in manufacturing and inventory
management.]

MRP was created initially to supply the Polaris program then, in 1964, as a
response to the Toyota Manufacturing Program, Joseph Orlicky developed
material requirements planning (MRP). The first company to use MRP was
Black & Decker in 1964, with Dick Alban as project leader. Orlicky's 1975 book
Material Requirements Planning has the subtitle The New Way of Life in
Production and Inventory Management. By 1975, MRP was implemented in 700
companies. This number had grown to about 8,000 by 1981.

In 1983, Oliver Wight developed MRP into manufacturing resource planning

(MRP II).[3] In the 1980s, Joe Orlicky's MRP evolved into Oliver Wight's
manufacturing resource planning (MRP II) which brings master scheduling,
rough-cut capacity planning, capacity requirements planning, S&OP in 1983
and other concepts to classical MRP. By 1989, about one third of the software
industry was MRP II software sold to American industry ($1.2 billion worth of
software).[4]

The scope of MRP in manufacturing

Dependent demand vs independent demand
Independent demand is demand originating outside the plant or production
system, while dependent demand is demand for components. The bill of
materials (BOM) specifies the relationship between the end product
(independent demand) and the components (dependent demand). MRP takes as
input the information contained in the BOM.

The basic functions of an MRP system include: inventory control, bill of

material processing, and elementary scheduling. MRP helps organizations to
maintain low inventory levels. It is used to plan manufacturing, purchasing
and delivering activities.

"Manufacturing organizations, whatever their products, face the same daily

practical problem - that customers want products to be available in a shorter
time than it takes to make them. This means that some level of planning is
required."

Companies need to control the types and quantities of materials they purchase,
plan which products are to be produced and in what quantities and ensure
that they are able to meet current and future customer demand, all at the
lowest possible cost. Making a bad decision in any of these areas will make the
company lose money. A few examples are given below:

 If a company purchases insufficient quantities of an item used in

manufacturing (or the wrong item) it may be unable to meet contract
obligations to supply products on time.
 If a company purchases excessive quantities of an item, money is wasted
- the excess quantity ties up cash while it remains as stock that might
never be used at all.
 Beginning production of an order at the wrong time can cause customer
deadlines to be missed.
MRP is a tool to deal with these problems. It provides answers for several
questions:

 What items are required?

 How many are required?
 When are they required?...

MRP can be applied both to items that are purchased from outside suppliers
and to sub-assemblies, produced internally, that are components of more
complex items.

Problems with MRP]

 Integrity of the data.

 Systems require that the user specify how long it will take for a factory to
make a product from its component parts (assuming they are all
available).
 A manufacturer may have factories in different cities or even countries.
 Production may be in progress for some part, whose design gets changed,
with customer orders in the system for both the old design, and the new
one, concurrently.
 The other major drawback of MRP is that it fails to account for capacity
in its calculations.

Demand driven MRP

Demand driven MRP is a multi-echelon formal planning and execution
technique with five distinct components:

1. Strategic inventory positioning

2. Buffer profiles and level
3. Dynamic adjustments
4. Demand-driven planning
5. Highly visible and collaborative execution

These five components work together to greatly dampen, if not eliminate,

the nervousness of traditional MRP systems and the bullwhip effect in
complex and challenging environments.

Supply-chain management
In commerce, supply-chain management (SCM), the management of the flow
of goods and services, involves the movement and storage of raw materials, of
work-in-process inventory, and of finished goods from point of origin to point of
consumption. Interconnected or interlinked networks, channels and node
businesses combine in the provision of products and services required by end
customers in a supply chain. SCM practice draws heavily from the areas of
industrial engineering, systems engineering, operations management, logistics,
procurement, information technology, and marketing
Mission[edit]
Supply-chain management, techniques with the aim of coordinating all parts of
SC from supplying raw materials to delivering and/or resumption of products,
tries to minimize total costs with respect to existing conflicts among the chain
partners.

material requirements planning (MRP)

Material requirements planning (MRP) is a system for calculating the materials

and components needed to manufacture a product. It consists of three primary
steps: taking inventory of the materials and components on hand, identifying
which additional ones are needed and then scheduling their production or
purchase.

MRP is one of the most widely used systems for harnessing computer power to
automate the manufacturing process.

IBM engineer Joseph Orlicky developed MRP in 1964 after he studied the
Toyota Production System, which was the model for the lean production
methodology. Power tool maker Black & Decker built the first computerized
MRP system that same year, according to several sources.

It's important to note, however, that MRP and lean production are not the same
and are considered by some practitioners to be antithetical, though some say
MRP can help with lean production. MRP is considered a "push" system --
inventory needs are determined in advance, and goods produced to meet the
forecasted need -- while lean is a "pull" system in which nothing is made or
purchased without evidence of actual -- not forecasted -- demand.

Orlicky's ideas spread rapidly throughout the manufacturing sector after the
1975 publication of his book, Material Requirements Planning: The New Way of
Life in Production and Inventory Management, and by the early 1980s, there
were hundreds of commercial and homegrown MRP software programs.

Orlicky died in 1986. A second edition of the book, updated by George Plossl,
was released in 1994.The current version, Orlicky's Material Requirements
Planning, Third Edition is a 2011 update by consultants Carol Ptak and Chad
Smith. It adds advice on how to use MRP to run a "demand-driven" planning
process that uses actual sales orders, rather than the typical MRP method of a
sales forecast, to calculate material requirements. Called DDMRP, this newer
"pull" approach is controversial and viewed by some as a violation of important
principles established by Orlicky.

MRP basics
MRP uses information from the bill of materials (a list of all the materials,
subassemblies and other components needed to make a product, along with
their quantities), inventory data and the master production schedule to
calculate the required materials and when they will be needed during the
manufacturing process.

MRP is useful in both discrete manufacturing, in which the final products are
distinct items that can be counted -- such as bolts, subassemblies or
automobiles -- and process manufacturing, which results in bulk products --
such as chemicals, soft drinks and detergent -- that can't be separately
counted or broken down into their constituent parts.

MRP vs. ERP

An extension of MRP, developed by management expert Oliver Wight in 1983
and called manufacturing resource planning (MRP II), broadened the planning
process to include other resources in the company, such as financials and
added processes for product design, capacity planning, cost management,
shop-floor control and sales and operations planning, among many others.
In 1990, the analyst firm Gartner coined the term enterprise resource planning
(ERP) to denote a still more expanded and generalized type of MRP II that took
into account other major functions of a business, such as accounting, human
resources and supply chain management, all of it managed in a centralized
database. Both MRP and MRP II are considered direct predecessors of ERP.

ERP quickly expanded to other industries, including services, banking and

retail, that did not need an MRP component. However, MRP is still an
important part of the ERP software used by manufacturers.

Objectives of material requirements planning

Not surprisingly, the primary objective of MRP is to make sure that materials
and components are available when needed in the production process and that
manufacturing takes place on schedule.

References[edit]

1. cf. Andreas Wieland, Carl Marcus Wallenburg (2011): Supply-

Chain-Management in stürmischen Zeiten. Berlin.
2. For SCM related to services, see for example the Association of
Employment and Learning Providers' Supply Chain Management Guide
at aelp.org.uk published 2013, accessed 31 March 2015
3. Harland, C.M. (1996) Supply Chain Management, Purchasing and
Supply Management, Logistics, Vertical Integration, Materials
Management and Supply Chain Dynamics. In: Slack, N (ed.) Blackwell
Encyclopedic Dictionary of Operations Management. UK: Blackwell.
4. "Supply Chain - School of Operations Research and Information
Engineering - Cornell Engineering". Www.orie.cornell.edu. Retrieved 26
July 2017.
5. "supply chain management (SCM)". APICS Dictionary. Retrieved
2016-07-19. supply chain management[:] The design, planning, execution,
control, and monitoring of supply chain activities with the objective of
creating net value, building a competitive infrastructure, leveraging
worldwide logistics, synchronizing supply with demand, and measuring
performance globally.
6. ^ Jump up to: a b c Kozlenkova, Irina V.; Hult, G. Tomas M.; Lund, Donald
J.; Mena, Jeannette A.; Kekec, Pinar (2015-05-12). "The Role of Marketing
Channels in Supply Chain Management". Journal of Retailing. 91 (4): 586–
609. doi:10.1016/j.jretai.2015.03.003. ISSN 0022-4359.
 7. ^ Lam, Hugo K.S. (2018-08-03). "Doing good across organizational
boundaries: Sustainable supply chain practices and firms' financial risk".
International Journal of Operations & Production Management. 38 (12):
2389–2412. doi:10.1108/ijopm-02-2018-0056. ISSN 0144-3577.
8. ^ Wieland, Andreas; Handfield, Robert B.; Durach, Christian F.
(2016). "Mapping the Landscape of Future Research Themes in Supply
Chain Management". Journal of Business Logistics. 37 (3): 205–212.
doi:10.1111/jbl.12131.
9. ^ "Optimizing an inventory model with fuzzy demand, backordering,
and discount using a hybrid imperialist competitive algorithm". Applied
Mathematical Modelling. 40 (15–16): 7318–7335. 2016-08-01.
doi:10.1016/j.apm.2016.03.013. ISSN 0307-904X.
10. ^ Jump up to: a b Robert B. Handfield; Ernest L. Nichols (1999).
Introduction to Supply Chain Management. New York: Prentice-Hall. p. 2.
ISBN 0-13-621616-1.
11. ^ David Jacoby (2009), Guide to Supply Chain Management: How
Getting it Right Boosts Corporate Performance (The Economist Books),
Bloomberg Press; 1st edition, ISBN 978-1576603451
12. ^ Andrew Feller, Dan Shunk, & Tom Callarman (2006). BPTrends,
March 2006 - Value Chains Vs. Supply Chains
13. ^ David Blanchard (2010), Supply Chain Management Best
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14. ^ Nabil Abu el Ata, Rudolf Schmandt (2016), The Tyranny of
Uncertainty, Springer, ISBN 978-3662491041

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