Unit 2: Forecasting

Introduction
• Forecasting is a prelude to planning.
• Before making plans, an estimate must be made of what conditions
will exist over some future period.
• How estimates are made, and with what accuracy, is another
matter, but little can be done without some form of estimation.

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Objectives of the Unit: After attending this unit, you will be
able to:-
• Understand what does forecasting means?
• List & explain features of good forecasting.
• Explain types of forecasting.
• Differentiate qualitative & quantitative forecasting methods.

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 Why Forecasting?
• Forecasting is inevitable in developing plans to satisfy future

demand.

• Most firms cannot wait until orders are actually received before

they start to plan what to produce.

• Customers usually demand delivery in reasonable time, and

manufacturers must anticipate future demand.

• Firms need to have saleable goods immediately available or at least

to have materials and subassemblies available to shorten the

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• Many factors influence the demand for a firm’s products and
services. Some factors are:

– General business and economic conditions.

– Competitive factors.

• Forecasting is the art and science of predicting future events.

• The quality of our decisions will highly depend upon the quality of
our forecasts.

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• Forecasting errors can be accommodated in the following ways:

– Try to reduce the error through better forecasting

– Build more flexibility in to the operation

– To reduce the lead-time over which the reasonable forecasting

cost and with the lowest possible.

• Error forecasting is an important input to all kinds of business

plans and decisions.

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 Features of Good Forecasting
• Accuracy: necessary to have forecasting system which amounts to
maximum accuracy.
• Simplicity: forecasting method should be as simple as possible.
• Availability: relevant information are collected immediately with
reasonable accuracy.
• Stability: The data of forecasting must be such wherein the future
changes are expected to be minimum and are reliable for planning.
• Economy: Costs must be weighed
• Utility: The forecasting techniques must be easily understandable
and reliable to the management.
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 Steps in Forecasting Process
General steps involved in forecasting are:

• Analyzing and understanding the problem: The real problem for which the

forecast is to be made should be identified first.

• Developing sound foundation: sound foundation should be developed through

considering available information, experience, type of business, and the rate of

development.

• Collecting and analyzing data: Only relevant data must be kept.

• Estimating future events: The future events are estimated by using trend analysis.

• Comparing results: The actual results are compared with the estimated results.

• Follow up action: The forecasting process can be continuously improved.

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 Types of Forecasting
Forecasts can be of three types, which are explained as follows:

1. Short Period Forecasts: forecasts that are generally for one year and based upon the

judgment of the experienced staff.

– It is important for deciding the production policy, price policy, credit policy, and distribution policy

of the organization.

2. Long Period Forecasts: forecasts that are for a period of 5-10 years and based on

scientific analysis and statistical methods.

– The forecasts help in deciding about the introduction of a new product, expansion of the business,

or requirement of extra funds.

3. Very Long Period Forecasts: Forecasts that are for a period of more than 10 years.
– These forecasts are carried to determine the growth of population, development of the economy,

political situation in a country, and changes in international trade in future.

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• Therefore, short period forecasts are more accurate than long period forecasts.
 Qualitative Methods

• There are many forecasting methods, but they can usually be

classified into three categories: Qualitative, extrinsic, and
intrinsic.
• Qualitative techniques are projections based on judgment,
intuition, and informed opinions.
– by their nature, they are subjective.

– used mainly by senior management.

– Example, market research, historical analogy and Delphi
method.
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Extrinsic forecasting techniques: are projections based on

external (extrinsic) indicators which relate to the demand for a

company’s products.

• The theory is that the demand for a product group is directly

proportional, or correlates, to activity in another field.

• Example:
– Sales of bricks are proportional to housing starts.

– Sales of automobile tires are proportional to gasoline consumption.

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Intrinsic forecasting techniques: use historical data to forecast.

• These data are usually recorded in the company and are readily available.

• Intrinsic forecasting techniques are based on the assumption that what

happened in the past will happen in the future.

• Assume that the monthly demand for a particular item over the past year is as

shown below. Suppose it is the end of December, and we want to forecast

demand for January of the coming year.

January 92 July 84
February 83 August 81
March 66 September 75
April 74 October 63
June 84 November 91
December 84

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Several rules can be used:

• Demand of this month will be the same as last month.

– January demand would be forecast, the same as December.

• Demand of this month will be the same as demand of the same

month last year.

– Forecast demand would, the same as January last year.

– This rule is adequate if demand is seasonal and there is little up

or down trend.

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 Quantitative Methods

• Based on historical information that is usually available within the

company. Various techniques are available:

• Trend Analysis: A method for forecasting sales data when a

definite upward or downward pattern exists.

– Model includes double exponential smoothing, regression & triple

smoothing.

• Seasonal Adjustment: Seasonal models take into account the

variation of demand from season to season.

• Graphical Methods: PlottingUnitinformation

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• Econometric Modeling: A set of equations intended to be used

simultaneously to capture the way in which dependent and

independent variables are interrelated.

• Life Cycle Modeling: A quantitative forecasting technique

based on applying past patterns of demand data covering

introduction, growth, maturity, saturation, and decline of

similar products to a new product family.

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