MANAGERIAL ECONOMICS

AND FINANCIAL ANALYSIS

TOPIC: DEMAND
FORECASTING
 DEMAND FORECASTING

• Demand forecasting is a combination of two words; the first one is Demand

and another forecasting. Demand means outside requirements of
a product or service. In general, forecasting means making an estimation in
the present for a future occurring event.
• 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.
• Usefulness of Demand Forecasting
• Demand plays a vital role in the decision making of a business. In
competitive market conditions, there is a need to take correct decision and
make planning for future events related to business like a sale, production,
etc. The effectiveness of a decision taken by business managers depends
upon the accuracy of the decision taken by them.
 SCOPE AND SIGNIFICANCE OF DEMAND
FORECASTING
• According to Evan J. Douglas, “Demand estimation (forecasting) may be defined as a
process of finding values for demand in future time periods.”

The Scope of Demand Forecasting

• The scope of demand forecasting depends upon the operated area of the firm, present
as well as what is proposed in the future. Forecasting can be at an international level
if the area of operation is international. If the firm supplies its products and services
in the local market then forecasting will be at local level.
• The scope should be decided considering the time and cost involved in relation to the
benefit of the information acquired through the study of demand. Cost of forecasting
and benefit flows from such forecasting should be in a balanced manner.

Significance of Demand Forecasting:

• Fulfilling objectives of the business
• Preparing the budget
• Taking management decision
• Evaluating performance etc.
• Moreover, forecasting is not completely full of proof and correct. It thus helps in
evaluating various factors which affect demand and enables management staff to
know about various forces relevant to the study of demand behavior.
 Types of Forecasting
Types of Forecasting
• There are two types of forecasting:
• Based on Economy
• Based on the time period
1. Based on Economy
• There are three types of forecasting based on the economy:
• Macro-level forecasting: It deals with the general economic environment relating
to the economy as measured by the Index of Industrial Production(IIP), national
income and general level of employment, etc.
• Industry level forecasting: Industry level forecasting deals with the demand for
the industry’s products as a whole. For example demand for cement in India,
demand for clothes in India, etc.
• Firm-level forecasting: It means forecasting the demand for a particular firm’s
product. For example, demand for Birla cement, demand for Raymond clothes, etc.
2. Based on the Time Period
• Forecasting based on time may be short-term forecasting and long-term forecasting
• Short-term forecasting: It covers a short period of time, depending upon the
nature of the industry. It is done generally for six months or less than one year.
Short-term forecasting is generally useful in tactical decisions.
• Long-term forecasting: Long-term forecasts are for a longer period of time say,
two to five years or more. It gives information for major strategic decisions of the
firm. For example, expansion of plant capacity, opening a new unit of business, etc.
OBJECTIVES OF DEMAND FORECASTING
 Steps in Demand Forecasting
Demand forecasting is a scientific exercise. It has to go through a number
of steps. At each step, critical considerations are required to be made.
Steps in demand forecasting are:

• Specifying the objective: The objective or the purpose of demand

forecasting must be clearly specified. The objective may be specified in
terms of (a) short-term or long-term demand, (b) the overall demand for a
product or for a firm’s own product, (c) the whole or only a segment of the
market for its product, or (d) firm’s market share. The objective of demand
forecasting must be determined before the process of forecast is started. This
has to be the first step.
• Determining the time perspective: Depending on the firm’s objective,
demand may be forecast for a short period, or for a long period. In demand
forecasting for a short period, many of the demand determinants can be taken
to remain constant or not to change significantly. In the long-run, however,
demand determinants may change significantly. Therefore, the time
perspective of demand forecasting must be specified.
 Steps in Demand Forecasting
• Making choice of method for demand forecasting:
There are a number of methods available for demand forecasting which we shall
introduce in another section of the analysis. However, all methods are not suitable for
all kinds of demand forecasting because the purpose of forecasting, data requirement
and availability of data for the use of a method, and time frame of forecasting differ
from method to method. Therefore, the demand forecaster has to choose a fitting
method keeping in view his purpose and requirements. The choice of a forecasting
method is generally based on the purpose, experience and skill/ knowledge of the
forecaster. It depends also to a great extent on the availability of required data. The
choice of a suitable method saves not only time and cost but also ensures the reliability
of forecast to a great extent.

• Collection of data and data adjustment: Once method of demand forecasting is

decided on, the next step is to collect the required data, primary or secondary or both.
The required data is often not available in the required type/form. In that case, data
needs to be adjusted – even massaged, if necessary – with the purpose of building data
series consistent with data requirement. Sometimes the required data has to be
generated from the secondary sources.

• Estimation and interpretation of results: As mentioned earlier, the availability of data

often determines the method, and also the potential/feasible equation to be used for
demand forecasting. Once required data is collected and forecasting method is finalized,
the final step in demand forecasting is to make the estimate of demand for the
predetermined years or the period. Where estimates appear in the form of an equation,
the result must be interpreted and presented in a usable form.
 METHODS OF DEMAND FORECASTING

QUALITATIVE/SUBJECTIVE QUANTITATIVE/STATISTICAL

TIME
CONSUMER’S 1.CENSUS SERIES
OPINION 2.SAMPLE
SURVEY
BAROMETRIC
1.GROUP 1.MOVING
EXPERT’S
DISCUSSION AVERAGE
OPINION SMOOTHING
2.DELPHI 2.WEIGHTED
AVERAGE
COLLECTIVE METHOD
OPINION
 QUALITATIVE METHODS
QUALITATIVE METHOD:
Estimating the future demand for new products and new market for which there
is no past data available.
a.Consumer’s opinion survey:
Survey among the buyers to know their purchasing behavior about their
willingness to the product,brand,quantity.
Census: Conducting survey among the entire 100% of consumers.It gives
reliable result.
Sample: Conducting survey among the representatives of sample
group(eg.10%)

b.Experts opinion:Conducting survey among the experts.

Group discussion: Experts involves in GD’s and finally estimate the future
sales/demand.
Delphi method: Individual opinion without face to face interaction.

c.Salesforce/collective opinion:
Salesmen are need to estimate the demand for the product in their respective
area.The estimations of individual salesmen are consolidated to get total
estimated sales/demand.
 QUANTITATIVE METHODS
QUANTITATIVE METHODS:
It is most accurate when past data is available.Depends on time series of sales.
a.Time Series Analysis
Time series analysis or trend projection or graphical method is one of the most
popular methods used by organisations for the prediction of demand in the long run.
The term time series refers to a sequential order of values of a variable (called trend)
at equal time intervals.
COMPONENTS
• Trend component: The trend component in time series analysis accounts for the
gradual shift in the time series to a relatively higher or lower value over a long period
of time.

• Cyclical component: The cyclical component in time series analysis accounts for the
regular pattern of sequences of values above and below the trend line lasting more
than one year.

• Seasonal component: The seasonal component in time series analysis accounts for
regular patterns of variability within certain time periods, such as a year.

• Irregular component: The irregular component in time series analysis accounts for a
short term, unanticipated and non-recurring factors that affect the values of the time
series
 QUANTITATIVE METHODS
b.Barometric Method
Future can be predicted from certain events occuring in present.
c.Smoothing method:
• When data collected over time displays random variation, smoothing techniques can be used
to reduce or cancel the effect of these variations. When properly applied, these techniques
smooth out the random variation in the time series data to reveal underlying trends.The most
common methods used in smoothing techniques of demand forecasting are simple moving
average method and weighted moving average method.
• Simple moving average is a discrete averaging method where periods in the past beyond a
certain number considered are irrelevant for the analysis
• ex.if five months moving average is used to forecaste the next months demand.

MONTHS SALES IN UNITS

JAN 50
f forecaste-for-july=?

FEB 40 SMA= 65+55+70+60+40

MAR 60 5
APRIL 70 for JULY = 58UNITS.
MAY 55
JUNE 65
 Quantitative Method

• Weighted Moving average method: In this method,more weightage

should be given to the relatively newer data.
• Compute a weighted moving 4 months moving average for month july
where weights are 0.4,0.3,0.25,0.05 for the latest months.Forecaste for
july?
MONTHS SALES IN UNITS F= (65X0.4)+(55X0.3)+(70X0.25)+(60X0.05)
(0.4+0.3+0.25+0.05)
JAN 50
= 63 UNITS.
FEB 40
MAR 60
APRIL 70
MAY 55
JUNE 65