03 - Product Management and Forecasting

IN3037: Design and Improvement
of Logistics Systems
03
Product Management and

Forecasting
Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 1
mostafahaji@tec.mx
03
Agenda
1. Classification.
2. Life Cycle.
3. 80-20 Curve.
4. Product Characteristics.
5. Packaging.
6. Pricing.
7. Forecasting

mostafahaji@tec.mx
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1. Classification
• Different products should be treated differently.
• Consumer Goods:
– Directed to ultimate consumers.
– Buyer seeks goods.
– Marketing is important.
• Industrial Goods:
– Used to produce other goods and services.
– Raw materials, components, equipment.
– Vendors seek buyers (usually).

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Classification: Consumer Goods
• Convenience goods & services:

– Food, convenience store products, gasoline, etc.
– Dry cleaners, banking, etc.
• Shopping goods & services:

– Clothes, furniture, automobiles, etc.
– Healthcare (personal physician), restaurants, etc.
• Specialty goods & services:

– Luxury autos, gourmet foods, custom products, etc.
– Advanced medical treatments, etc.

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Consumer Goods & Logistics
Convenience Shopping Specialty

goods goods goods
Substitutability HIGH MEDIUM LOW
Availability HIGH MEDIUM LOW
Value LOW MEDIUM HIGH

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2. Life Cycle
• Logistics system changes as product “ages”.

Sales
Maturity
Growth
Decline
Introduction
Time

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2. Life Cycle
• Logistics system changes as product “ages”.

Growth:
Expanding
Sales
availability;
Maturity:
High service
Widest
level
availability
Decline:
Introduction: Decreasing
Limited availabilit;
availability Reduced
service
Time

mostafahaji@tec.mx
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3. 80-20 Curve (Pareto Principle)
• Most of the revenue (or profit) comes from a relatively small

percentage of items (products).
• Focus on the small number of important items.

– Identify the important items: ABC classification.
– Apply highest service level to most important items.
• Examples:
– 20% of the people do 80% of the work.
– 10% of the people cause 90% of the problems.
– 15% of the items (products) create 90% of the sales.

mostafahaji@tec.mx
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ABC Classification
1. Rank products (items) by sales ($/year).
2. a. Calculate cumulative % of total sales.

b. Calculate cumulative % of total products (items).
3. Plot 2.a. vs. 2.b.
4. Select top items as “A”, middle as “B”, and bottom as “C”.

- Breakpoints are flexible; depend on data.
- Generally more B’s than A’s, and more C’s than B’s.

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ABC Classification Example: 8 Products
Sales Cumulative Cumulative

Product ($x1000) % of Sales % of Sales % of Items % of Items
Class
P-74 760
P-26 640
P-51 240
Q-47 140
P-33 100
Q-65 60
Q-66 40
P-17 20
Given
Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey10

mostafahaji@tec.mx
03
ABC Classification Example
Product ($x1000) % of Sales % of Sales % of Items % of Items Class
P-74 760 38 38 12.5 12.5
P-26 640 32 70 12.5 25
P-51 240 12 82 12.5 37.5
Q-47 140 7 89 12.5 50
P-33 100 5 94 12.5 62.5
Q-65 60 3 97 12.5 75
Q-66 40 2 99 12.5 87.5
P-17 20 1 100 12.5 100
100
Total Sales = 2000 %
Cumulative % of
Calculate
50%
Sales
80-20 Curve 0%
0% 50% 100
Cumulative % of Items %
mostafahaji@tec.mx
03

P-74 760 38 38 12.5 12.5
P-26 640 32 70 12.5 25
P-51 240 12 82 12.5 37.5
Q-47 140 7 89 12.5 50
P-33 100 5 94 12.5 62.5
Q-65 60 3 97 12.5 75
Q-66 40 2 99 12.5 87.5
P-17 20 1 100 12.5 100
Total Sales = 2000
Determine

mostafahaji@tec.mx
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P-74 760 38 38 12.5 12.5 A
P-26 640 32 70 12.5 25
P-51 240 12 82 12.5 37.5
Q-47 140 7 89 12.5 50
P-33 100 5 94 12.5 62.5
Q-65 60 3 97 12.5 75
Q-66 40 2 99 12.5 87.5
P-17 20 1 100 12.5 100 C
Total Sales = 2000
Determine

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P-74 760 38 38 12.5 12.5 A
P-26 640 32 70 12.5 25 A
P-51 240 12 82 12.5 37.5 B
Q-47 140 7 89 12.5 50 B
P-33 100 5 94 12.5 62.5 C
Q-65 60 3 97 12.5 75 C
Q-66 40 2 99 12.5 87.5 C
P-17 20 1 100 12.5 100 C
Total Sales = 2000
In this example: Determine

A: 25% of items; 70% of sales
B: 25% of items; 19% of sales
C: 50% of items; 11% of sales

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80-20 Curve: Mathematical Model
Y = cumulative % of sales 100

%
X = cumulative % of items
A = shape constant (0<A)
50%
(1+A)X
Y=
A+X
0%
X(1-Y) 0% 50% 100
Given an X and Y, then A= %
Y-X
Given: (1) 30% of the items produce 75% of the sales

(2) The first 20% are to be A items,
the next 30% are B items, and
the last 50% are C items.
What % of sales do A, B and C items account for?

mostafahaji@tec.mx
03
Using the Mathematical Model
Given an X (% of items) and a corresponding Y (% of sales).
X(1-Y)
Find shape constant A: A=
Y-X
For each set of items:

Use the shape constant A and the % of items (X) to calculate % of sales (Y).
(1+A)X
Y=
A+X

mostafahaji@tec.mx
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80-20 Curve: Mathematical Model
(2) The first 20% are to be A items,
the next 30% are B items, and
the last 50% are C items.
What % of sales do A, B and C items account for?
X(1-Y) 0.30(1-0.75)
X=0.30; Y= 0.75 A= = = 0.16666
Y-X 0.75-0.30
(1+0.1666)X (1+0.1666)0.2
A items: X = 0.20 Y= = = 0.6363
0.1666+X 0.1666+0.2
A: 63.6% of sales
ANSWER
A+B items: X = 0.50 Y = 0.875
B items alone: Y = 0.875 - 0.636 = 0.2387 B: 23.9% of sales
C items: Y = 1 - 0.875 = 0.125 C: 12.5% of sales

mostafahaji@tec.mx
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Turnover Ratio
Annual Sales
Turnover Ratio =
Average Inventory
Example: $1,000,000 sales per year

$200,000 average inventory
1,000,000
Turnover Ratio = =5 (5:1 or 5 to 1)
200,000
Small inventory Large turnover ratio

Small inventory cost
Annual Sales
Average Inventory =
Turnover Ratio

mostafahaji@tec.mx
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Average Inventory

(2) The first 25% have a 10:1 turnover ratio (A items),
the next 30% have a 5:1 turnover ratio (B items), and
the last 45% have a 2:1 turnover ratio (C items).
(3) Total annual sales are estimated to be $5,000,000.
What is the total average value of inventory (for A, B and C items together)?
TO SOLVE:
1. Compute shape constant A.
2. For each set of items:

- Calculate % of sales (Y) using shape constant A and % of items (X).
- Calculate average inventory where Annual Sales is Y times total annual sales.
Annual Sales
Average Inventory =
Turnover Ratio
mostafahaji@tec.mx
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Average Inventory -Example

Determine shape constant A, then inventory for A items.
X(1-Y) 0.30(1-0.75)
X=0.30; Y= 0.75 A= = = 0.16666
Y-X 0.75-0.30
A items: X = 0.25 Y = 0.70 70% of sales
0.70x5000000
Average Inventory = = $350,000
10

mostafahaji@tec.mx
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Average Inventory- Example (Cont.)
Determine cumulative sales for A and B items,

then inventory for B items (5:1 turnover ratio),
then inventory for C items (2:1 turnover ratio).
A items: X = 0.25 Y = 0.70 70% of sales

0.70*5000000/10 = $350,000 inventory
A+B items: X = 0.55 Y = 0.895

B items alone: Y = 0.895 - 0.7 = 0.195 19.5% of sales
0.195*5000000/5 = $195,000 inventory
C items: Y = 1 - 0.895 = 0.105 10.5% of sales

0.105*5000000/2 = $262,500 inventory
ANSWER = $807,500

mostafahaji@tec.mx
03
Average Inventory Sample Problems

(4) There are 260 items.
What is the average inventory value for the top 10 items?
What is the average inventory value for the 11th item?
What is the average inventory value for items 51-80?

mostafahaji@tec.mx
03
4. Product Characteristics
• Density (weight/bulk or weight/volume)
– High: Metals, printed matter, liquids, etc.

– Low: Snack foods, light bulbs, etc.
– Vehicles have weight and volume limits.
– Can increase density by disassembly.
– Mix loads to adjust density.

mostafahaji@tec.mx
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4. Product Characteristics
Density Example
Need to ship:
60,000 lbs of paper @ 20 lbs/ft3 = 3,000 ft3
6,000 lbs of light bulbs @ 2 lbs/ft3 = 3,000 ft3
Truck capacity: 40,000 lbs and 3,000 ft3
Plan A
Truck 1: 40,000 lbs paper (2,000 ft3)
Truck 2: 20,000 lbs paper + 4,000 lbs light bulbs (3,000 ft3)
Truck 3: 2,000 lbs light bulbs (1,000 ft3)
Plan B

mostafahaji@tec.mx
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4. Product Characteristics - Value
• Value
– High value:
• Transport quickly.
• Few items and short time in inventory.
• Extra security may be needed.
– Low value:
• Can transport slowly.
• Large inventories OK.

mostafahaji@tec.mx
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4. Product Characteristics - Substitutability
• Substitutability
refers to the ability of goods or services to be replaced by
another good or service in use or consumption.
– High substitutability:
• Wide availability at many locations.
• High service level; Always in stock; Quick service.
– Low substitutability:
• Few locations; Customers will travel.
• Customers will wait.

mostafahaji@tec.mx
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4. Product Characteristics - Risk
• Risk
– Theft, Perishability, Explosion, Fire, etc.
– High risk:
• Few locations, small inventories.
• Increased security for storage.
• Increased security for transportation.
– Low risk:
• Many locations.
• No added security.

mostafahaji@tec.mx
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5. Packaging
• For easier and safer storage, handling and transportation.

• For economies of scale in movement and storage.
•For protection of product and workers.

• For promotion (marketing).
• For information.

mostafahaji@tec.mx
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6. Pricing
• Transportation price depends mainly on distance and weight transported.
• Zone pricing:
– Constant price over geographic regions.
– Price increases with distance.
• f.o.b. = free on board

– Where price takes effect; Where ownership changes.
– fob factory: Buyer pays for transportation from factory and owns product at
factory.
– fob destination: Seller transports and owns until destination.
• Negotiation: Key in deregulated environment.

mostafahaji@tec.mx
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7. Forecasting
FORECAST:
•A statement about the future
•Used to help managers

• Plan the system
• Plan the use of the system
I see that you will
get an A this semester.
• Forecasting vs. Predicting

 Assumes causal system
past ==> future
 Forecasts rarely perfect because of randomness
 Forecasts more accurate for
groups vs. individuals
 Forecast accuracy decreases
as time horizon increases
Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey

30
mostafahaji@tec.mx
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Uses of Forecasts
Accounting Cost/profit estimates
Finance Cash flow and funding
Human Resources Hiring/recruiting/training
Marketing Pricing, promotion, strategy
MIS IT/IS systems, services
Operations Schedules, MRP, workloads
Product/service design New products and services

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mostafahaji@tec.mx
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Elements of a Good Forecast
Timely
Reliable Accurate
Written

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mostafahaji@tec.mx
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Steps in the Forecasting Process
“The forecast”
Step 6 Monitor the forecast

Step 5 Prepare the forecast
Step 4 Gather and analyze data
Step 3 Select a forecasting technique
Step 2 Establish a time horizon
Step 1 Determine purpose of forecast

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Types of Forecasts
 Judgmental - uses subjective inputs

 Time series - uses historical data assuming the future
will be like the past
 Associative models - uses explanatory variables to
predict the future

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Judgmental Forecasting
 Expert Opinions
 Opinions of managers and staff
◦ Delphi method
 Sales force composite
 Consumer surveys

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 1-Expert Opinions:
 This technique is about using the subjective views of the
executives are averaged to set the forecast.
 Usually expert opinion technique is used with
conjunction with some quantitative techniques.

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 2- The Delphi Method:

 The Delphi method is a group technique in which a
panel of experts is individually questioned about their
perception of future events.
 The experts do not meet as a group in order to reduce
the possibility that consensus is reached because of
dominant personality factors.
 Instead, the forecast and accompanying arguments are
summarized by an outside party and returned to the
experts along with future questions.
 This process continues until consensus is reached by the
group, especially after few rounds.

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 3- Sales Force Polling:

 Some companies use as a forecast source salespeople
who have continual contacts with customers.
 They believe that their sales force, which is closest to
the ultimate customers, may have significant insights
regarding the state of the future market.
 Forecast based on sales force polling may be averaged
to develop a future forecast.
 Or they may be used to modify other quantitative and/or
qualitative forecast that has been generated within the
company.

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Time Series Forecasts
 Trend - long-term movement in data
 Seasonality - short-term regular variations in data
 Irregular variations - caused by unusual circumstances
 Random variations - caused by chance

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Time Series Forecasts
Irregular
variation
Trend
Cycles
90
89
88
Seasonal variations

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Naive Forecasts
Uh, give me a minute....

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

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Techniques for Averaging
• Moving average
• Weighted moving average
• Exponential smoothing

42
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Simple Moving Average
Actual
MA5
47
45
43
41
39
37 MA3
35
1 2 3 4 5 6 7 8 9 10 11 12
n

i=1
Ai
MAn =
n

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Exponential Smoothing
Ft = Ft-1 + (At-1 - Ft-1)
• The most recent observations might have the highest predictive

value. Therefore, we should give more weight to the more
recent time periods when forecasting.

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Example of Exponential Smoothing
Period Actual Alpha = 0.1 Error Alpha = 0.4 Error

1 42
2 40 42 -2.00 42 -2
3 43 41.8 1.20 41.2 1.8
4 40 41.92 -1.92 41.92 -1.92
5 41 41.73 -0.73 41.15 -0.15
6 39 41.66 -2.66 41.09 -2.09
7 46 41.39 4.61 40.25 5.75
8 44 41.85 2.15 42.55 1.45
9 45 42.07 2.93 43.13 1.87
10 38 42.36 -4.36 43.88 -5.88
11 40 41.92 -1.92 41.53 -1.53
12 41.73 40.92

45
mostafahaji@tec.mx
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Picking a Smoothing Constant
Actual
50
Demand
45  .1
40
.4
35
1 2 3 4 5 6 7 8 9 10 11 12
Period

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Common Nonlinear Trends
Parabolic
Exponential
Growth

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Calculating a and b
Yt = a + bt
0 1 2 3 4 5 t
 b is similar to the slope. However, since it is

calculated with the variability of the data in
mind, its formulation is not as straight-forward
as our usual notion of slope.

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Linear Trend Equation Example
t y
Week t2 Sales ty
1 1 150 150
2 4 157 314
3 9 162 486
4 16 166 664
5 25 177 885
 t = 15 t = 55  y = 812  ty = 2499

2
2
(t) = 225

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mostafahaji@tec.mx
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Linear Trend Calculation
5 (2499) - 15(812) 12495 -12180

b = = = 6.3
5(55) - 225 275 -225
812 - 6.3(15)
a = = 143.5
5
y = 143.5 + 6.3t

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Seasonal Demand

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Forecasting with Seasonality
Using season relative (index) to reach to deseasonlized

data.

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Forecasting with Seasonality
 If the seasonal index is not known, then it must be

computed using centered moving average.

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A Guide To Select An Appropriate Method

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03 - Product Management and Forecasting

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IN3037: Design and Improvement

Product Management and

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 2

• Different products should be treated differently.

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 3

• Convenience goods & services:

• Shopping goods & services:

• Specialty goods & services:

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 4

Convenience Shopping Specialty

Substitutability HIGH MEDIUM LOW

Availability HIGH MEDIUM LOW

Value LOW MEDIUM HIGH

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 5

• Logistics system changes as product “ages”.

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 6

• Logistics system changes as product “ages”.

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 7

• Most of the revenue (or profit) comes from a relatively small

• Focus on the small number of important items.

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 8

1. Rank products (items) by sales ($/year).

2. a. Calculate cumulative % of total sales.

3. Plot 2.a. vs. 2.b.

4. Select top items as “A”, middle as “B”, and bottom as “C”.

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey 9

Sales Cumulative Cumulative

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey10

Sales Cumulative Cumulative

Total Sales = 2000

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey12

Sales Cumulative Cumulative

Total Sales = 2000

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey13

Total Sales = 2000

In this example: Determine

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey14

Y = cumulative % of sales 100

Given: (1) 30% of the items produce 75% of the sales

What % of sales do A, B and C items account for?

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey15

Given an X (% of items) and a corresponding Y (% of sales).

For each set of items:

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey16

C items: Y = 1 - 0.875 = 0.125 C: 12.5% of sales

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey17

Example: $1,000,000 sales per year

Small inventory Large turnover ratio

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey18

Given: (1) 30% of the items produce 75% of the sales

2. For each set of items:

Given: (1) 30% of the items produce 75% of the sales

Determine shape constant A, then inventory for A items.

A items: X = 0.25 Y = 0.70 70% of sales

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey20

Determine cumulative sales for A and B items,

A items: X = 0.25 Y = 0.70 70% of sales

A+B items: X = 0.55 Y = 0.895

C items: Y = 1 - 0.895 = 0.105 10.5% of sales

Dr. Mostafa Hajiaghaei-Keshteli Escuela de Ingeniería y Ciencias, Tecnologico de Monterrey21

Given: (1) 30% of the items produce 75% of the sales

What is the average inventory value for the top 10 items?