Forecasting

3-4 Forecasting

What is Forecasting?
 Process of predicting
a future event
 Underlying basis
of all business
??
decisions
 Production
 Inventory
 Personnel
 Facilities
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FORECAST:
 A statement about the future value of a variable
of interest such as demand.
 Forecasts affect decisions and activities throughout
an organization
 Accounting, finance
 Human resources
 Marketing
 MIS
 Operations
 Product / service design
3-6 Forecasting

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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 Assumes causal system

past ==> future
 Forecasts rarely perfect because
of randomness
 Forecasts more accurate for
groups vs. individuals I see that you will
get an A this semester.
 Forecast accuracy
decreases as time horizon
increases
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Forecasting Time Horizons

 Short-range forecast
 Up to 1 year, generally less than 3 months
 Purchasing, job scheduling, workforce levels,
job assignments, production levels
 Medium-range forecast
 3 months to 3 years
 Sales and production planning, budgeting
 Long-range forecast
 3+ years
 New product planning, facility location,
research and development
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Influence of Product Life Cycle

Introduction – Growth – Maturity – Decline

 Introduction and growth require longer forecasts

than maturity and decline
 As product passes through life cycle, forecasts
are useful in projecting
 Staffing levels
 Inventory levels
 Factory capacity
3-10 Forecasting

Product Life Cycle

Introduction Growth Maturity Decline
Product design Forecasting Standardization Little product
and critical Fewer product differentiation
development Product and changes, more Cost
critical process minor changes minimization
Frequent reliability Optimum Overcapacity
product and Competitive capacity in the
process design product industry
changes Increasing
improvements
OM Strategy/Issues

Short stability Prune line to

and options of eliminate
production Increase process items not
runs returning
capacity Long production
High production runs good margin
costs Shift toward
product focus Product Reduce
Limited models improvement capacity
Enhance
Attention to distribution and cost cutting
quality

Figure 2.5
3-11 Forecasting

Forecasting in the Service Sector

 Presents unusual challenges

 Special need for short term records
 Needs differ greatly as function of
industry and product
 Holidays and other calendar
events
 Unusual events
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Elements of a Good Forecast

Timely

Reliable Accurate

Written
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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
3-14 Forecasting

The Importance of Forecasting in P.O.M

P ro c u re m e n t
Plans

M a rk e tin g
Plans

Facility E x p a n s i o n ,
Contraction, &
Demand Sales Relocation Plans
Forecast
Forecast P e rs o n n e l
Plans

F in a n c ia l P ro d u c tio n
Plans Plans
3-15 Forecasting

Factors Influencing Demand

 Business Cycle
 Product Life Cycle
 Testing and Introduction
 Rapid Growth

 Maturity

 Decline

 Phase Out
3-16 Forecasting

Factors Influencing Demand

 Other Factors
 Competitor’s efforts and prices
 Customer’s confidence and attitude
3-18 Forecasting

Principles of Forecasting
Many types of forecasting models that differ in
complexity and amount of data & way
they generate forecasts:
1. Forecasts are rarely perfect
2. Forecasts are more accurate for grouped
data than for individual items
3. Forecast are more accurate for shorter
than longer time periods

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3-20 Forecasting

Types of Forecasting Methods

 Forecasting methods are classified into
two groups:

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3-21 Forecasting

Types of Forecasting Models

 Qualitative methods – judgmental methods

 Forecasts generated subjectively by the
forecaster
 Educated guesses
 Quantitative methods – based on mathematical
modeling:
 Forecasts generated through mathematical
modeling

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3-22 Forecasting

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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Qualitative Methods

Type Characteristics Strengths Weaknesses

Executive A group of managers Good for strategic or One person's opinion
opinion meet & come up with new-product can dominate the
a forecast forecasting forecast

Market Uses surveys & Good determinant of It can be difficult to

research interviews to identify customer preferences develop a good
customer preferences questionnaire

Delphi Seeks to develop a Excellent for Time consuming to

method consensus among a forecasting long-term develop
group of experts product demand,
technological
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3-24 Forecasting

Judgmental Forecasts

 Executive opinions
 Sales force opinions
 Consumer surveys
 Outside opinion
 Delphi method
 Opinions of managers and staff
 Achieves a consensus forecast
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Quantitative Methods
 Time Series Models:
 Assumes information needed to generate a forecast is contained
in a time series of data
 Assumes the future will follow same patterns as the past
 Causal Models or Associative Models
 Explores cause-and-effect relationships
 Uses leading indicators to predict the future

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3-48 Forecasting

Controlling the Forecast

 Control chart
 A visual tool for monitoring forecast errors
 Used to detect non-randomness in errors

 Forecasting errors are in control if

 All errors are within the control limits
 No patterns, such as trends or cycles, are
present
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Sources of Forecast errors

 Model may be inadequate

 Irregular variations

 Incorrect use of forecasting

technique
3-50 Forecasting

Choosing a Forecasting Technique

 No single technique works in every

situation
 Two most important factors
 Cost
 Accuracy

 Other factors include the availability of:

 Historical data
 Computers

 Time needed to gather and analyze the data

 Forecast horizon