Forecasting Supply Chain Requirements

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The Importance of Forecasting
 Governments forecast unemployment, interest rates, and expected revenues from income taxes for policy purposes  Marketing executives forecast demand, sales, and consumer preferences for strategic planning  College administrators forecast enrollments to plan for facilities and for faculty recruitment  Retail stores forecast demand to control inventory levels, hire employees and provide training
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What’s Forecasted in the Supply Chain?

•Demand, sales or requirements •Purchase prices •Replenishment and delivery
lead times
CR Dr.Burcu Ozcam (2004) Prentice Hall, Inc. LOG301

Some Forecasting Method Choices
•Historical projection Moving average Exponential smoothing •Causal or associative Regression analysis •Qualitative Surveys Expert systems or rule-based •Collaborative

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Forecasting
 We focus on using historical data for forecasting demand  This should not diminish the importance of other sources of information and common sense  Information consists of
1. Historical data on our time series 2. Insight/knowledge and common sense

 Don’t confuse information with intuition  Lets try a case study. Forecast a real time series from scratch using intuition!
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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

We’ll guess same as last month
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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 Month Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

We’ll guess same as last month plus a little more for a possible trend

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

This is easy, who needs forecasting

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Continue with our successful method: guess the same as last month plus a little more for a possible trend

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Definitely looks like a trend

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Trend might be a tad steeper than I thought

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Opps

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Momentary deviation, trend will continue

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

See, I told you this was easy!

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Trend will continue

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Opps, another momentary fluctuation:

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Trend should continue

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Oh oh!

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Sales has leveled off: Lets average last few points

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Oh oh, maybe things are going down hill

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Let’s be conservative and Assume a negative trend

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Thank goodness, we are still basically level

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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We’ll guess same as last month

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

This stuff is easy

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

We have for sure leveled off

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Big trouble!!! Chief forecaster Smith and CEO Smothers fired!

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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New chief forecaster points out the obvious trend

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Remarkable turnaround in sales. New CEO Smithers given credit

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Still looks like a trend to me

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Maybe not!

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Level except for anomaly

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Have things turned around?

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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I’ll hedge my bets

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Things have turned around. Perhaps Smithers truly is a genius

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Trend up!

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Not bad!

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

Revise trend a tad

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Smithers makes cover of Fortune

Smithers Smothers
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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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This is easy!!

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Dr.Burcu Ozcam

No big deal, trend continues

(in an unrelated matter Smithers cashes out stock options)

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Heads will surely roll soon

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Let’s be cautiously optimistic

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Smithers called before board

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Perhaps we over reacted

Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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We will guess level
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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Back to normal!
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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Monthly Sales Forecast

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Monthly Sales and Forecast
2000 1800 1600 1400 Sales ($1000) 1200 1000 800 600 400 200 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
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Smithers fired!

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What have we learned?
 Our Actual sales appears to be a great leading indicator of our forecast
• It is supposed to work the other way around!!!!

 If we add up the (absolute value of) our forecast errors, we get 226.2  If we had simply guessed “same as last month” we get 175.1  Our intuition (ability to recognize a pattern) was poor given almost no information or data. Never-the-less we saw patterns.  For monthly data we can be tempted to “over think” forecasting.  Now some additional information: • Source of data is monthly sales of Australian Red Wine • We also have a few years of data LOG301 Dr.Burcu Ozcam

M onthly S ales of A us tralian Red W ine 3500 3000 2500 Sales($1000) 2000 1500 1000 500 0 1 8 15 22 29 36 43 85 50 57 64 71 78 92 99 106 113 120 127 134 M o n th 141
clear seasonal behavior clear upward trend increase in amplitude

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Value of Data
 Given data, we can forecast this series quite accurately.  This assumes stable behavior  Recommend at least 4 - 5 seasons of data.  Monthly demand thus prefers 4 to 5 years of data  With 2 years of data, we are essentially forecasting on the basis of two points if there is seasonal behavior

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Laws of forecasting
1.We assume the future will behave like the past
• In the real world, the future often does not behave like the past.

1. Even given that the future behaves like the past, there is a limit to how accurate forecasts can be (or nothing can be predicted with complete accuracy)
• The key issue is: How close will the forecast be to the actual value? • It is crucial to attempt to quantify the expected accuracy of a forecast

1. The further into the future you attempt to forecast, the greater will be the forecast error.
• Major decisions are often based on long term forecasts. e.g. building a new plant • Considering risk is even more important in these cases

1. Decisions will be based on the forecast (Otherwise there is no need to forecast!)
• That is: forecasts have inherent error, thus the decisions based on forecasts have inherent risk

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P ast D ata and Future Fore casts
20 15 10 5 Demand 0 -5 -10 -15 -20 1 5 9 13 21 25 29 33 41 57 65 69 P e rio d 73 17 37 45 49 53 61

Now

Past Data

Future forecast

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Fore casts with 50% P re diction Inte rv als
20 15 10 5 Demand 0 -5 -10 -15 -20 1 5 9 13 21 25 29 33 41 57 65 69 P e rio d 73 17 37 45 49 53 61

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Fore casts with 95% P re diction Inte rv als
20 15 10 5 Demand 0 -5 -10 -15 -20 1 5 9 13 21 25 29 33 41 57 65 69 P e rio d 73 17 37 45 49 53 61

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Time-Series Data
 Numerical data obtained at regular time intervals  The time intervals can be annually, quarterly, daily, hourly, etc.  Example: Year: Sales: 1999 2000 2001 2002 2003 75.3 74.2 78.5 79.7 80.2

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Time Series Plot
A time-series plot is a two-dimensional plot of time series data
 the vertical axis measures the variable of interest  the horizontal axis corresponds to the time periods
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U.S. Inflation Rate
16.00 14.00 12.00 10.00 8.00 6.00 4.00 2.00 0.00 1975 1977 1979 1981 1989 1993 1995 1997 1999
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Inflation Rate (%)

Year

2001

1983

1985

1987

1991

Time-Series Components
Time-Series
Trend Component Seasonal Component Cyclical Component Random Component

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Trend Component
 Long-run increase or decrease over time (overall
upward or downward movement)

 Data taken over a long period of time
Sales
U d rd tren pwa

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Time

Trend Component
 Trend can be upward or downward  Trend can be linear or non-linear

(continued)

Sales

Sales

Time Downward linear trend
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Time Upward nonlinear trend
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Seasonal Component
 Short-term regular wave-like patterns  Observed within 1 year  Often monthly or quarterly Sales
Summer Winter Spring Fall

Time (Quarterly)
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Cyclical Component
 Long-term wave-like patterns  Regularly occur but may vary in length  Often measured peak to peak or trough to trough 1 Cycle Sales

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Year

Random Component
 Unpredictable, random, “residual” fluctuations  Due to random variations of
• Nature • Accidents or unusual events

 “Noise” in the time series

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Trend-Based Forecasting
 Estimate a trend line using regression analysis Time Period (t) 1 2 3 4 5 6  Use time (t) as the independent variable:

Year 1999 2000 2001 2002 2003 2004
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Sales (y) 20 40 30 50 70 65

ˆ y = b0 + b1t

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Trend-Based Forecasting
 The linear trend model is: Year 1999 2000 2001 2002 2003 2004
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Time Period (t) 1 2 3 4 5 6

Sales (y) 20 40 30 50 70 65
80 70 60 50 40 30 20 10 0 0

ˆ y = 12.333 + 9.5714 t
Sales trend

sales

1

2
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3

4

5

6

Year

Trend-Based Forecasting
Time Year Period (t) Sales (y) 1999 2000 2001 2002 2003 2004 2005 1 2 3 4 5 6 7 20 40 30 50 70 65 ??

 Forecast for time period 7:

ˆ y = 12.333 + 9.5714 (7) = 79.33Sales
80 70 60 50 40 30 20 10 0 0 1 2
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sales

3

4

5

6

7

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Year

Comparing Forecast Values to Actual Data
 The forecast error or residual is the difference between the actual value in time t and the forecast value in time t:  Error in time t:

e t = y t − Ft

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Two common Measures of Fit
 Measures of fit are used to gauge how well the forecasts match the actual values MSE (mean squared error)
• Average squared difference between yt and Ft

MAD (mean absolute deviation)
• Average absolute value of difference between yt and Ft • Less sensitive to extreme values

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MSE vs. MAD

∑ (y MSE =

Mean Square Error
t

Mean Absolute Deviation
2

− Ft )

n

∑| y MAD =

t

− Ft |

n

where: yt = Actual value at time t Ft = Predicted value at time t n = Number of time periods
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Moving Averages
 Used for smoothing  Series of arithmetic means over time  Result dependent upon choice of L (length of period for computing means)  To smooth out seasonal variation, L should be equal to the number of seasons
• For quarterly data, L = 4 • For monthly data, L = 12

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Moving Averages
 Example: Four-quarter moving average • First average:

(continued)

Q1 + Q2 + Q3 + Q4 Moving average 1 = 4
• Second average:

Q2 + Q3 + Q4 + Q5 Moving average 2 = 4
• etc…
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Seasonal Data
Quarter 1 2 3 4 5 6 7 8 9 10 11 etc…
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Sales 23 40 25 27 32 48 33 37 37 50 40 etc…
Quarterly Sales
60 50 40 Sales 30 20 10 0 1 2 3 4 5 6 Quarter 7 8 9 10

… …
11

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Calculating Moving Averages
Quarter 1 2 3 4 5 6 7 8 9
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Sales 23 40 25 27 32 48 33 37 37 50
etc…

Average 4-Quarter Period Moving Average 2.5 28.75 3.5 31.00 4.5 33.00 5.5 35.00 6.5 37.50 7.5 38.75 8.5 39.25 9.5 41.00

2.5 = 28.75 =

1+ 2 + 3 + 4 4 23 + 40 + 25 + 27 4

 Each moving average is for a consecutive block of 4 quarters
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Single Exponential Smoothing
 A weighted moving average
• Weights decline exponentially • Most recent observation weighted most

 Used for smoothing and short term forecasting

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Single Exponential Smoothing(continued)
 The weighting factor is α
• Subjectively chosen • Range from 0 to 1 • Smaller α gives more smoothing, larger α gives less smoothing

 The weight is:
• Close to 0 for smoothing out unwanted cyclical and irregular components • Close to 1 for forecasting

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Exponential Smoothing Model
 Single exponential smoothing model

Ft +1 = Ft + α( y t − Ft )
or:

Ft +1 = αy t + (1 − α )Ft
where: Ft+1 = forecast value for period t + 1 yt = actual value for period t Ft = forecast value for period t α = alpha (smoothing constant)
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Exponential Smoothing Example
 Suppose we use weight α = .2
Quarter (t) Sales (yt) 23 40 25 27 32 48 33 37 37 50 etc… Forecast from prior period NA 23 26.4 26.12 26.296 27.437 31.549 31.840 32.872 33.697 etc… Forecast for next period (Ft+1 )
F1 = y1 since no prior information exists

1 2 3 4 5 6 7 8 9 10 etc…

23 (.2)(40)+(.8)(23)=26.4 (.2)(25)+(.8)(26.4)=26.12 (.2)(27)+(.8)(26.12)=26.296 (.2)(32)+(.8)(26.296)=27.437 (.2)(48)+(.8)(27.437)=31.549 (.2)(48)+(.8)(31.549)=31.840 (.2)(33)+(.8)(31.840)=32.872 (.2)(37)+(.8)(32.872)=33.697 (.2)(50)+(.8)(33.697)=36.958 etc…

Ft +1 = αy t + (1 − α)Ft

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Sales vs. Smoothed Sales
 Seasonal fluctuations have been smoothed  NOTE: the smoothed value in this case is generally a little low, since the trend is upward sloping and the weighting factor is only .2
60 50 40

Sales

30 20 10 0 1 2 3 4 5 6 7 8 9 10

Quarter

Sales
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Smoothed

Double Exponential Smoothing
 Double exponential smoothing is sometimes called exponential smoothing with trend  If trend exists, single exponential smoothing may need adjustment  Add a second smoothing constant to account for trend

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Double Exponential Smoothing Model

C t = αy t + (1 − α )(C t −1 + Tt −1 )
Ft +1 = C t + Tt

Tt = β(C t − C t −1 ) + (1 − β)Tt −1
where: yt = actual value in time t α = constant-process smoothing constant β = trend-smoothing constant Ct = smoothed constant-process value for period t Tt = smoothed trend value for period t Ft+1 = forecast value for period t + 1
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t = current time period

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Double Exponential Smoothing
 Double exponential smoothing is generally done by computer  Use larger smoothing constants α and β when less smoothing is desired  Use smaller smoothing constants α and β when more smoothing is desired

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Exponential Smoothing in Excel
 Use tools / data analysis / exponential smoothing
• The “damping factor” is (1 - α )

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Types of Regression Models
Positive Linear Relationship Relationship NOT Linear

Negative Linear Relationship

No Relationship

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Simple Linear Regression Model
 Only one independent variable, x  Relationship between x and y is described by a linear function  Changes in y are assumed to be caused by changes in x

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Linear Regression
The regression model:
y intercept Dependent Variable Slope Coefficient Independent Variable Random Error term, or residual

y = b 0 + b1x + ε
Linear component
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Random Error component

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Linear Regression
y
Observed Value of y for xi Predicted Value of y for xi Intercept = b0

y = b 0 + b1x + ε
εi
Random Error for this x value

(continued)

Slope = b1

xi
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x

Least Squares Criterion
 b0 and b1 are obtained by finding the values of b0 and b1 that minimize the sum of the squared residuals

ˆ )2 ∑ e = ∑ (y −y
2

=

∑ (y − (b

0

+ b1x))

2

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The Least Squares Equation
 The formulas for b1 and b0 are:

b1

∑ ( x − x )( y − y ) = ∑ (x − x)
2

algebraic equivalent:

b1 =

∑ x∑ y ∑ xy −
n (∑ x ) 2 x2 − ∑ n
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and

b0 = y − b1 x

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Interpretation of the Slope and the Intercept
 b0 is the estimated average value of y when the value of x is zero  b1 is the estimated change in the average value of y as a result of a one-unit change in x

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Finding the Least Squares Equation
 The coefficients b0 and b1 will usually be found using computer software, such as Excel or Minitab  Other regression measures will also be computed as part of computer-based regression analysis

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Simple Linear Regression Example
 A real estate agent wishes to examine the relationship between the selling price of a home and its size (measured in square feet)  A random sample of 10 houses is selected • Dependent variable (y) = house price in
$1000s

• Independent variable (x) = square feet

Dr.Burcu Ozcam

LOG301

Sample Data for House Price Model
House Price in $1000s (y) 245 312 279 308 199 219 405 324 319 255
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Square Feet (x) 1400 1600 1700 1875 1100 1550 2350 2450 1425 1700

Regression Using Excel
 Tools / Data Analysis / Regression

Dr.Burcu Ozcam

LOG301

Excel Output
Regression Statistics Multiple R R Square Adjusted R Square Standard Error Observations 0.76211 0.58082 0.52842 41.33032 10 df 1 8 9 Coefficients Intercept Square Feet 98.24833 0.10977 SS 18934.9348 13665.5652 32600.5000 Standard Error 58.03348 0.03297 t Stat 1.69296 3.32938 P-value 0.12892 0.01039 Lower 95% -35.57720 0.03374 Upper 95% 232.07386 0.18580 MS 18934.9348 1708.1957 F 11.0848 Significance F 0.01039

The regression equation is:
house price = 98.24833 + 0.10977 (square feet)

ANOVA
Regression Residual Total

Dr.Burcu Ozcam

LOG301

Graphical Presentation
 House price model: scatter plot and regression line
450 400 House Price ($1000s) 350 300 250 200 150 100 50 0 0 500 1000 1500 2000 2500 3000 Square Feet

Slope = 0.10977

Intercept = 98.248

house price = 98.24833 + 0.10977 (square feet)
Dr.Burcu Ozcam LOG301

Actions When Forecasting is Not Appropriate
• Seek information directly from customers •Collaborate with other channel members • Apply forecasting methods with caution (may work
where forecast accuracy is not critical) becomes clear

• Delay supply response until demand • Shift demand to other periods for better
supply response systems

• Develop quick response and flexible supply
CR Dr.Burcu Ozcam (2004) Prentice Hall, Inc. LOG301

Collaborative Forecasting

• Demand is lumpy or highly uncertain • Involves multiple participants each with • •
a unique perspective—“two heads are better than one” Goal is to reduce forecast error The forecasting process is inherently unstable
LOG301

CR Dr.Burcu Ozcam (2004) Prentice Hall, Inc.

Collaborative Forecasting: Key Steps
• Establish a process champion • Identify the needed Information and collection processes • Establish methods for processing information from multiple

sources and the weights assigned to multiple forecasts • Create methods for translating forecast into form needed by each party • Establish process for revising and updating forecast in real time • Create methods for appraising the forecast • Show that the benefits of collaborative forecasting are obvious and real
CR Dr.Burcu Ozcam (2004) Prentice Hall, Inc.

LOG301

Managing Highly Uncertain Demand
•Delay forecasting as long as possible •Prioritize supply by product’s degree of uncertainty
(supply to the more certain products first)

•Apply the principle of postponement to the most

uncertain products (delay committing to a final product form until an order is received) capacity and output rates through subcontracting, computer technology, multi-purpose processes, etc.)

•Create flexible supply to changing demand (alter

•Be able to respond quickly to uncertain demand levels
CR Dr.Burcu Ozcam (2004) Prentice Hall, Inc. LOG301

 Ch 2, Problems 1,4,8,9,10  Due 8-12 Oct.

Dr.Burcu Ozcam

LOG301

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