Chapter18 Forecasting IPE493 25-3-17

181
Chapter Eighteen
McGraw-Hill/Irwin Copyright 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
182
Copyright 2014 by McGraw Hill Education (India) Private Limited. All rights reserved.
LO181: Understand how forecasting is
essential to supply chain planning
LO182: Evaluate demand using

qualitative forecasting techniques
LO183: Apply quantitative techniques

to forecast demand
183
Forecasting is a vital function and affects every significant
management decision.
Finance and accounting use forecasts as the basis for
budgeting and cost control.
Marketing relies on forecasts to make key decisions such as
new product planning and personnel compensation.
Production uses forecasts to select suppliers; determine
capacity requirements; and drive decisions about purchasing,
staffing, and inventory.
Different roles require different forecasting approaches.

Decisions about overall directions require strategic forecasts.
Tactical forecasts are used to guide day-to-day decisions.
184
There are four basic types of forecasts.
Qualitative
Time series analysis (primary focus of this
chapter)
Causal relationships
Simulation
Time series analysis is based on the idea

that data relating to past demand can be
used to predict future demand.
185
Generally used to take advantage of expert
knowledge.
Useful when judgment is required, when
products are new, or if the firm has little
experience in a new market.
Examples
Market research
Panel consensus
Historical analogy
Delphi method
186
Average
demand for a Trend
period of time
Seasonal Cyclical
element elements
Random
Autocorrelation
variation
187
Demand for product or service
1
Year
Seasonal peaks
2
Year
Random
variation
3
Year
over four years
Average demand
4
Year
line
Trend component
Actual demand
188
Identification of trend lines is a common
starting point when developing a forecast.
Common trend types include linear, S-curve,
asymptotic, and exponential.
189
Using the past to predict the future
Short term forecasting less than 3 months
Used mainly for tactical decisions
Medium term forecasting 3 months to 2 years
Used to develop a strategy that will be implemented over the

next 6 to 18 months (e.g., meeting demand)
Long term forecasting greater than 2 years
Useful for detecting general trends and identifying major

turning points
1810
Choosing an appropriate forecasting
model depends upon
Time horizon to be forecast
Data availability
Accuracy required
Size of forecasting budget
Availability of qualified personnel
1811
Amount of Historical Forecast
Forecasting Method Data Pattern
Data Horizon
6 to 12 months; Stationary (i.e.,
Simple moving
weekly data are often no trend or Short
average
used seasonality)
Weighted moving
average and simple 5 to 10 observations
Stationary Short
exponential needed to start
smoothing
Exponential 5 to 10 observations
Stationary and
smoothing with needed to start Short
trend
trend
Stationary,
Short to
Linear regression 10 to 20 observations trend, and
medium
seasonality
1812
Forecast is the average of a fixed number of past
periods.
Useful when demand is not growing or declining

rapidly and no seasonality is present.
Removes some of the random fluctuation from

the data.
Selecting the period length is important.

Longer periods provide more smoothing.
Shorter periods react to trends more quickly.
1813

1814
The simple moving average formula implies
equal weighting for all periods.
A weighted moving average allows unequal
weighting of prior time periods.
The sum of the weights must be equal to one.
Often, more recent periods are given higher
weights than periods farther in the past.
= +
+ +

1815
A weighted average method that includes all
past data in the forecasting calculation
More recent results weighted more heavily
The most used of all forecasting techniques
An integral part of computerized forecasting
1816
Well accepted for six reasons
Exponential models are surprisingly accurate
Formulating an exponential model is relatively
easy
The user can understand how the model works
Little computation is required to use the model
Computer storage requirements are small
Tests for accuracy are easy to compute
1817
18-18
1818
Regression is used to identify the functional
relationship between two or more correlated variables,
usually from observed data.
One variable (the dependent variable) is predicted for
given values of the other variable (the independent
variable).
Linear regression is a special case that assumes the
relationship between the variables can be explained
with a straight line.
Y = a + bx
1819
The least squares method Quarter Sales Quarter Sales
determines the parameters a 1 600 7 2,600
and b such that the sum of the 2 1,550 8 2,900
squared errors is minimized 3 1,500 9 3,800
least squares 4 1,500 10 4,500
5 2,400 11 4,000
6 3,100 12 4,900
1820
Forecast error is the difference between the forecast
value and what actually occurred.
All forecasts contain some level of error.
Sources of error
Bias when a consistent mistake is made
Random errors that are not explained by the model
being used
Measures of error
Mean absolute deviation (MAD)
Mean absolute percent error (MAPE)
Tracking signal
1821

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181

LO182: Evaluate demand using

LO183: Apply quantitative techniques

Different roles require different forecasting approaches.

Time series analysis is based on the idea

Used mainly for tactical decisions

Medium term forecasting 3 months to 2 years

Used to develop a strategy that will be implemented over the

Long term forecasting greater than 2 years

Useful for detecting general trends and identifying major

Useful when demand is not growing or declining

Removes some of the random fluctuation from

Selecting the period length is important.

More recent results weighted more heavily

The most used of all forecasting techniques

An integral part of computerized forecasting

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