2011 Lscm Lesson6 Demand Forecasting

7/31/2019 2011 Lscm Lesson6 Demand Forecasting

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Demand ForecastingDemand ForecastingChapter 5Chapter 5

Logistics ManagementLogistics Management- Satish C. Ailawadi & Rakesh Singh- Satish C. Ailawadi & Rakesh Singh

Chapter 7Chapter 7Logistical ManagementLogistical Management- Donald J Bowersox & David J. Closs- Donald J Bowersox & David J. Closs

Chapter 5Chapter 5Elements of Logistics & Supply Chain Mgmt.Elements of Logistics & Supply Chain Mgmt.- Vijay Kumar Bhatia- Vijay Kumar Bhatia

Chapter 7Chapter 7Business StatisticsBusiness Statistics- Neena Joshi, Gomathi Venkat, S R Rege- Neena Joshi, Gomathi Venkat, S R Rege


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OutlineOutline

Definition

Scope of Demand Forecasting

* Purpose / Objectives of Demand Forecasting

Nature of Demand * Forecast Components

Approaches to Forecasting

Qualitative and Quantitative Forecasting Techniques &their Applicability

Time Series Analysis [with numerical examples]

* To be done from slides only


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Demand ForecastingDemand Forecasting

DefinitionDefinition

Demand forecasting ispredicting the futurepredicting the futuredemanddemandof the product or services of anorganization

AKA Demand Estimation

To forecast is to estimate or calculate inadvance

Corporate decisions often depend onmanagerial forecasts, yet there is never aguarantee of the reliability or accuracy of the

forecast


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... Demand Forecasting... Demand Forecasting

... Definition... Definition

If managers have a fair idea of the futuredemand of their product & services, they canimprove the quality of decision with regardsto production, procurement and promotion

Consequently managers can meet clientdemands more efficiently, minimize funds

tied up in inventories, save interest costs,avoid stock out situations and improve profits


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... Demand Forecasting... Demand Forecasting

... Definition... Definition

Forecasts

Drive logistics system planning &

coordination Help in prediction of quantity of products

that will be produced, shipped or sold

A typical logistics forecast is a prediction ofweekly / monthly shipments from adistribution center for an individual item


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66Determining the Scope of DemandDetermining the Scope of DemandForecastingForecasting

Before taking up an estimation or forecast, certain factors

have to be taken into consideration

Savage & Small have identified six factors involved indemand forecast which need to be taken care of whiledetermining the scope of the demand forecast

Period of forecastingPeriod of forecasting

Levels of forecastingLevels of forecasting

General Purpose or Specific Purpose ForecastsGeneral Purpose or Specific Purpose Forecasts

Forecasts of Established or New ProductsForecasts of Established or New Products

Type of commodity for which Forecast is to be doneType of commodity for which Forecast is to be done

Miscellaneous Factors to be Included or NotMiscellaneous Factors to be Included or Not


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77Determining the Scope of DemandDetermining the Scope of DemandForecastingForecasting Period of forecastingPeriod of forecasting

As a first step, the forecaster has to decide about the length of theperiod for the forecast

Time periods are usually divided into

The short-term

The medium-term The long-term

The short-termThe short-term

Is generally for periods upto 3 months

Forecaster looks for the factors which result in fluctuations indemand patterns in the market

Factors include weather conditions, tastes, fashions etc

The demand for machine time, equipment, raw materials, power,transport, finance, labour etc influence the decisions of the firm inshort-run forecasts


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88... Determining the Scope of Demand... Determining the Scope of DemandForecastingForecasting The medium-termThe medium-term

Generally covers a period between 3 months & 1 year Experience & sound judgment are more important than statistical

information

Main feature of is the direction of trenddirection of trendwhich has importantimplications for factors such as employees' recruitment, training etc

Can assist in decisions about timing of an activity such as advertising,expenditure etc

The long-termThe long-term

Refers to a period of generally 3 or 5 or 10 years

Provides information for strategic decisions

Concerned with extending or reducing the limits of resources

Takes into consideration influence on consumer's demand of factorslike socio-economic changes, fiscal & monetary policy

Validity of trend must be ascertained

Is the basis of decisions of the size of output, expansion of capacity,modernization etc


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99... Determining the Scope of Demand... Determining the Scope of DemandForecastingForecasting Levels of forecastingLevels of forecasting

Demand forecasting can be undertaken at any one of the followinglevels

Macro-economic ForecastingMacro-economic Forecasting

Concerned with business conditions over the entire economy

Business conditions measured with the help of appropriateindicators like those relating to national income, industrialproduction, wholesale prices etc.

Indicators are provided by government & private agencies &

can be treated as basic assumptions on which to base thedemand estimates


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1010... Determining the Scope of Demand... Determining the Scope of DemandForecastingForecasting

... Levels of Forecasting... Levels of Forecasting

Industry (market) Demand ForecastingIndustry (market) Demand Forecasting

Such forecasts can give indication to a firm regarding thedirection in which the whole industry will be moving

e.g. Ambuja Cement would like to know the way cement industry

is likely to behave, so as to plan their future Data relating to a trend in a particular industry is provided by

trade associations to their members

Helps firms' estimate their outputs, sale, capacity, expansion etc

Firm Demand ForecastingFirm Demand Forecasting

Several big firms would like to perform demand forecasting oftheir own products independent of the other players in theindustry

Such forecasts assess the position of the firm in relation to itscompetitors


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1111... Determining the Scope of Demand... Determining the Scope of DemandForecastingForecasting ... Levels of forecasting... Levels of forecasting

Product-line Demand ForecastingProduct-line Demand Forecasting

Helps firm to decide which of their products have priority inallocation of the firm's limited resources

e.g. Firms such as HUL & P&G which have a large number of

product lines, have to decide which product line gets priority International Level ForecastingInternational Level Forecasting

MNCs need to forecast for the different countries where they have apresence

General Purpose or Specific Purpose ForecastsGeneral Purpose or Specific Purpose Forecasts Though a general estimate is useful for a firm, it will be even more

useful to have a general estimate broken down into specificestimates with respect to areas of sale, domestic sale & exportmarkets


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1212... Determining the Scope of Demand... Determining the Scope of DemandForecastingForecasting

Forecasts of Established or New ProductsForecasts of Established or New Products

Methods of estimation differ for established or new products For established products, past sale trends & competitive conditions

are know whereas for new products no such data is available

Type of commodity for which Forecast is to be doneType of commodity for which Forecast is to be done

Economists broadly classify goods into capital goods, consumerdurables & non-durable goods

For each category, the demand pattern would be different

Hence for each category separate demand estimation is required

Miscellaneous Factors to be Included or NotMiscellaneous Factors to be Included or Not

The forecaster has to decide how much the sociological &psychological factors are to considered in the demand forecastingexercise

To be more effective, factors such as product features, product

markets, nature of competition, impact of uncertainty & risk, change ispopulation composition, income distribution etc need to be considered


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Purpose / Objectives of Demand ForecastingPurpose / Objectives of Demand Forecasting

Forecasting is to done for the short-term as well as long-term

Purpose for the two differs

Purpose for short-term forecasts

Short-term forecasts cover a period of 3 months, 6 months or 1year, chosen period depends on nature of business

Short-term forecasts are undertaken for the following purposes1. Appropriateproduction schedulingproduction scheduling so as to avoid the problem of

over-production & the problem of short supply

2. Helping the firm in reducing costs of purchasing raw materialsreducing costs of purchasing raw materials &controlling inventory by determining its future resource requirements

3. Determining appropriate price policyappropriate price policyto maintain consistent sales

4. Setting sales targets & establishing controls & incentivesSetting sales targets & establishing controls & incentives withchanging pattern of demand & extent of competition among firms

5. Evolving suitable advertising & promotion programmessuitable advertising & promotion programmes

6. Forecasting short term finance requirementsshort term finance requirements


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... Purpose / Objectives of Demand Forecasting... Purpose / Objectives of Demand Forecasting

Long-term forecasts cover a period of 3, 5 or 10 years depending upon thenature of the industry & nature of product

Concept of demand forecasting is more relevant to the long-term forecaststhan short-term forecasts, because it is easier to predict the immediate futurethan to predict the long-term future

The maybe far more fluctuations in the long-run future

Long-term forecasts are undertaken for the following purposes

1. Planning of a new unit or expansion of an existing unitPlanning of a new unit or expansion of an existing unit requires ananalysis of the long term demand potential, a multi-product firm mustascertain not only the total demand, but also the demand for different itemsseparately

2. Planning long-term financial requirementsPlanning long-term financial requirements as planning for a large

quantum of funds requires considerable advance notice, long-term salesforecasts are essential to assess long-term financial requirements

3. Planning man-power requirementsPlanning man-power requirements trained & skilled labour & businessexecutives may be required in the long-run due to expansion or setting-upof a new manufacturing plant

4. Planning a suitable strategyPlanning a suitable strategyto produce goods & services as perchanging needs of customer tastes & preferences


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Nature of DemandNature of Demand

Demand can be classified as

Dependent demand

Independent demand

Dependent DemandDependent Demand

Herein demand ofdependent item can bederived directly from the

forecast of the base item Can be further classified into

Vertical Dependent Demand

Horizontal Dependent Demand


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... Nature of Demand... Nature of Demand

VerticalVerticalDependent DemandDependent Demand

Is characterized by sequence of purchasing& manufacturing

e.g. component parts such as tyres that areassembled to form finished goods such asautomobiles

Hence requirement of tyres dependdependon the

automobile assembly schedule

May extend through several channels suchas raw material suppliers, component

suppliers etc


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HorizontalHorizontalDependent DemandDependent Demand

Item demanded is not required to complete themanufacturing process but is required tocomplete the marketing / sales process

e.g. user's manual shipped along with theproduct

e.g. for a promotion that demands free tooth

brush with purchase of toothpaste Demand of the base item is determined using

forecasts, requirements of dependent componentscan calculated directly and no separate forecastingis done


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Independent DemandIndependent Demand

Those demands that are not related to thedemand of another item

e.g. the demand for refrigerators is probablynot related to the demand of milk

Hence, independent demand items must be

forecasted individually


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Forecast ComponentsForecast Components

While the forecasted quantity is generally asingle figure, the value is made up of sixcomponents

Base demandBase demand Cyclic factorsCyclic factors

PromotionsPromotions

Irregular quantitiesIrregular quantities

TrendsTrends

Seasonal factorsSeasonal factors


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... Forecast Components... Forecast Components

Mathematically forecast can be expressed as

Ft = (Bt X St X T X Ct X Pt) + I

where Ft = forecast quantity for period t

Bt = base level demand for period t

St = seasonality factor for period t

T = trend component: increase or decrease

per time period

Ct = cyclic factor for period t

Pt = promotional factor for period t

I = irregular or random quantity

All forecasts may not include all the components


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Base DemandBase Demand

The quantity left after the remainingcomponents have been removed

Is based on the average over an extendedperiod of time

Is the appropriate forecast for products thathave no seasonality, trend, cyclic orpromotional components

e.g. base demand would be an appropriateforecast for products such as bread, biscuits

and milk


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Trend ComponentTrend Component

Exhibits long range general movement in periodic sales over anextended period of time

Can be positive or negative or neutral in direction

Positive trend implies increasing sales across time

Negative trend implies decreasing sales across time

Neutral sales trend implies sales of same quantities across time

Increases / decreases in trend are dependent on changes in

overall population or consumption pattern

Direction of trend may change several times over the entireproduct life cycle

e.g. a reduction in birth rate implies that a reduction in demand

for diapers will follow


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Cyclic ComponentCyclic Component

AKA business cycles

Exhibit swings in demand pattern lasting more thana year

May be either upward or downward

e.g. business cycle in which economies traditionallyswing from boom / expansion to recession every 3to 5 years

The demand of housing and general spendinglevels of consumers are typically tied to these

business cycles

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Promotional ComponentPromotional Component

Are demand swings initiated by a firm's promotionalactivities such as advertising, sales and schemes such asBOGOF

Sales increase as customers take advantage ofpromotional offers

These lead to liquidation of inventories

Promotions can be either offerings to consumers orofferings to wholesalers / retailers

Promotions, if offered regularly & at the same time everyyear will resemble a seasonal component

Timing & magnitude to a large extent is under firm's control

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Irregular ComponentIrregular Component

Include random or unpredictable quantities thatdo not fit within the other categories

Because of its random nature, it is impossible topredict

Objective is to minimize the magnitude ofrandom component by tracking & predicting theother components

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Approaches to ForecastingApproaches to Forecasting

Approaches to sales forecasting usually involve

forecasting down from the top level of demand orforecasting up from the lower levels of demand

The two approaches to sales forecasting

Top-down Forecasting ApproachTop-down Forecasting Approach Bottom-up Forecasting ApproachBottom-up Forecasting Approach

Approaches can be used independently or in

combination The combination used must trade off the

complication of data collection & tracking of bottom-up approach with the data manipulation ease of top-down approach

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... Approaches to Forecasting... Approaches to Forecasting

Top-down Forecasting ApproachTop-down Forecasting Approach

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... Top-down Forecasting Approach... Top-down Forecasting Approach

Is a centralized approach

Involves predicting total demand at the top or global level ofa product group or family

Entire demand is then broken down by product class intocentral distribution center to branch or regional distributioncenter down to individual stock keeping unit [SKU]

Approach should be used for short-term planning andshipping forecasts to distribution centers

When available, point-of-sale data can increase forecastaccuracy and improve performance of short-term issues,such as inventory and transportation

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Bottom-up Forecasting ApproachBottom-up Forecasting Approach

Is a decentralized approach

Each distribution center demand forecast is developedindependently

Market is divided into segments, and then eachsegment demand is calculated

Typically, analysts use sales force data, industrysurveys, and intention-to-buy surveys to collect data

Data across segments are aggregated to arrive at atotal sales forecast

Approach may not be simple to use because ofcomplications with the accuracy of the data submitted

3131Qualitative & Quantitative ForecastingQualitative & Quantitative Forecasting


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3131Qualitative & Quantitative ForecastingQualitative & Quantitative ForecastingTechniques & Their ApplicabilityTechniques & Their Applicability



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3232... Qualitative & Quantitative Forecasting... Qualitative & Quantitative ForecastingTechniques & Their ApplicabilityTechniques & Their ApplicabilityForecasting techniques can be divided into two categories

Qualitative Forecasting TechniquesQualitative Forecasting Techniques

Quantitative Forecasting TechniquesQuantitative Forecasting Techniques


No formal mathematical model used Based on expertise, subjective in nature

Ideal for situations where no historical data is available

Typically concern long-term forecasting

Are time-consuming

Include the following methods

The Delphi Technique

Sales Force Opinions

Jury of Executive Opinion

Market Research



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3333... Qualitative & Quantitative Forecasting... Qualitative & Quantitative ForecastingTechniques & Their ApplicabilityTechniques & Their Applicability


The Delphi TechniqueThe Delphi Technique An attempt is made to develop forecasts through "group consensus"

Involves a panel of experts, physically separated from and unknownto each other

Each expert is asked to to respond to an initial series ofquestionnaires

Then, a second questionnaire is prepared incorporating informationand opinions of the whole group

Each expert is asked to reconsider and to revise his or her initial

response to the questions Process is continued until some degree of consensus among

experts is reached

The objective of the Delphi technique is not to produce a singleanswer at the end

Instead, it attempts to produce a relatively narrow spread of opinions



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... Qualitative Forecasting Techniques... Qualitative Forecasting Techniques

Sales Force OpinionsSales Force Opinions

The sales staff is often a good source of informationregarding future demand

The sales manager may ask for input from each sales-person and aggregate their responses into a sales forcecomposite forecast

Caution should be exercised when using this technique as

the members of the sales force may not be able todistinguish between what customers say and what theyactually do

Also, if the forecasts will be used to establish sales quotas,

the sales force may be tempted to provide lower estimates



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Jury of Executive OpinionJury of Executive Opinion

AKA Executive Opinion

Sometimes upper-levels managers from different

functional areas such as marketing, finance, productionetc are brought together to develop forecasts based ontheir knowledge of their areas of responsibility

Particularly suitable for new products which do not have

any past history of sales There is a risk that the opinion of any one individual may

overshadow the opinion of other experts

The responsibility of forecast arrived is spread over the

entire group, rather than any individual



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Market ResearchMarket Research

Consumer surveys are used to establish potentialdemand

Usually involves constructing a questionnaire that solicitspersonal, demographic, economic, and marketinginformation

Market researchers generally collect such information in

person at retail outlets and malls, where the consumercan experience, taste, feel, smell, and see a particularproduct

The researcher must be careful that the sample of peoplesurveyed is representative of the desired consumer target



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Quantitative Forecasting TechniquesQuantitative Forecasting Techniques

Are based on an analysis of historical data

Objective in nature

Include the following methods

Casual Methods

Time Series Forecasting Methods

Moving Averages

Exponential Smoothing

Time Series Decomposition

Trend projection

Nave Approach



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... Quantitative Forecasting Techniques... Quantitative Forecasting Techniques

Casual MethodsCasual Methods

Use mathematical techniques such as regression

Relates a dependent variable to an independentvariable in the form of a linear equation

Also uses econometric models, input-output models,life-cycle analysis, computer simulation models &

neural networks Most of these approaches are difficult to implement

In practice, only single or multiple regression is used

for logistics planning



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Time Series Forecasting MethodsTime Series Forecasting Methods

A time series is a set of evenly spaced numerical data

Is obtained by observing responses at regular time

periods

The forecast is based only on past values

Assumes that factors that influence the past sales of a

firm's product, will continue in the present and thefuture sales



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... Time Series Forecasting Methods... Time Series Forecasting Methods

Moving AveragesMoving Averages

Is a series of arithmetic means

Is used if little or no trend is present in the data

Provides an overall impression of data over time

Moving Average = Demand in previous n periods

n

where n is the number of periods in the movingaverage



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... Qualitative & Quantitative Forecasting... Qualitative & Quantitative ForecastingTechniques & Their ApplicabilityTechniques & Their Applicability

4545Qualitative & Quantitative Forecasting... Qualitative & Quantitative Forecasting


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Weighted Moving AveragesWeighted Moving Averages

Adjusts the moving average method to reflect

fluctuations more closely by assigning weights to themost recent data, meaning, that the older data isusually less important

The weights are based on intuition

Weighted Moving Average ={(weight for period n) X (Demand in period n)}

n

where n is the number of periods in the moving

average

4646Qualitative & Quantitative Forecasting... Qualitative & Quantitative Forecasting


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4747... Qualitative & Quantitative Forecasting... Qualitative & Quantitative Forecasting


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Time Series Forecasting MethodsTime Series Forecasting Methods

Exponential SmoothingExponential Smoothing

Is an averaging method that reacts more strongly to

recent changes in demand by assigning a smoothingconstant to the most recent data

A new forecast is based on forecast of previous period

& the following relation exists between them New Forecast = Last period's forecast + (Last

period's actual demand - Last period's forecast)

where denotes a weight or smoothing constant



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...Time Series Forecasting Methods...Time Series Forecasting Methods

... Exponential Smoothing... Exponential Smoothing

Mathematically

Ft = Ft-1 + ( At-1 - Ft-1 )

where Ft = New Forecast

Ft-1

= Previous Forecast

= Smoothing constant ( 0 < < 1)At-1 = Previous period's actual demand



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... Qualitative & Quantitative ForecastingQ Q gTechniques & Their ApplicabilityTechniques & Their Applicability



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... Qualitative & Quantitative ForecastingQ Q gTechniques & Their ApplicabilityTechniques & Their Applicability



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Q Q gQ Q gTechniques & Their ApplicabilityTechniques & Their Applicability



Time Series DecompositionTime Series Decomposition

AKA Seasonal variations

Involves the measurement of seasonal variation

Adjusts the seasonality by multiplying the normalforecast by a seasonal factor



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Q Q gQ Q gTechniques & Their ApplicabilityTechniques & Their Applicability... Quantitative Forecasting Techniques... Quantitative Forecasting Techniques

... Time Series Forecasting Methods... Time Series Forecasting MethodsTrend ProjectionTrend Projection

The time series data of the item under forecast are used to fit a trendline or curve either graphically or through statistical method of LeastSquares

The trend line is worked out by fitting a trend equation to time seriesdata with the aid of an estimation method

The trend equation could take either a linear or a non-linear form

Method often yields a dependable forecast

Advantage is that it does not require the formal knowledge ofeconomic theory & markets, it only needs the time series data

Limitation is that it assumes that the past is repeated in future

An appropriate method for long-run forecasts, but inappropriate for

short-run forecasts



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Nave ApproachNave Approach

Among the time-series models, the nave approach is the

simplest method Simply uses the actual demand for the past period as the

forecasted demand for the next period

Assumes that demand in the next period is the same as

demand in most recent period Also assumes that any trends, seasonality, or cycles are either

reflected in the previous period's demand or do not exist

e.g. If July sales were 50 units, then Augusts sales will also be

50 units

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ReferencesReferences


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ReferencesReferences Determining the Scope of Demand Forecasting

http://books.google.com/books?

id=dX987hKb7hYC&pg=PA56&dq=scope+of+demand+forecasting&hl=en&ei=0UcTTsimLcaurAfWhoiIBA&sa=X&oi=book_result&ct=result&resnum=8&ved=0CEwQ6AEwBw#v=onepage&q=scope%20of%20demand%20forecasting&f=false

Purpose / Objective of Demand Forecasting

http://books.google.com/books?id=dX987hKb7hYC&pg=PA56&dq=scope+of+demand+forecasting&hl=en&ei=0UcTTsimLca

urAfWhoiIBA&sa=X&oi=book_result&ct=result&resnum=8&ved=0CEwQ6AEwBw#v=onepage&q&f=false

Approaches to Demand Forecasting

http://smallbusiness.chron.com/various-sales-forecasting-techniques-4695.html

http://www.newswise.com/articles/view/574260/?sc=c14

http://www.answers.com/topic/sales-forecast

Forecasting Techniques

http://www.referenceforbusiness.com/management/Ex-Gov/Forecasting.html

http://people.brunel.ac.uk/~mastjjb/jeb/or/forecast.html

http://www.referenceforbusiness.com/encyclopedia/Fa-For/Forecasting.html

http://www.uoguelph.ca/~dsparlin/forecast.htm#MULTIPLICATIVE%20SEASONAL
http://smallbusiness.chron.com/various-sales-forecasting-techniques-4695.htmlhttp://www.newswise.com/articles/view/574260/?sc=c14http://www.answers.com/topic/sales-forecasthttp://www.referenceforbusiness.com/encyclopedia/Fa-For/Forecasting.htmlhttp://www.referenceforbusiness.com/encyclopedia/Fa-For/Forecasting.htmlhttp://www.answers.com/topic/sales-forecasthttp://www.newswise.com/articles/view/574260/?sc=c14http://smallbusiness.chron.com/various-sales-forecasting-techniques-4695.html

2011 Lscm Lesson6 Demand Forecasting

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