FORECASTING

METHODS

Presented By
GROUP 5 :
Asha Jaikishan (126

Neha Agarwal (136

Shyamashree Das
(160)
12/15/09 SECTION-C PGDM-III rd Trimester
S.Pramoth (148)
 Forecasting as Planning
tool
Ø Managerial decision making is complicated.
Ø Examples:
§ Production facility: Demand
§ Hospital : Specialty health wing
Ø Forecasting: branch of operations
management
Ø Estimates of timing and magnitude of
occurrence of future events .
Ø Important tool in public policy decisions as
well.
Ø
 Functions
Ø Estimation tool
Ø Method of addressing the complex
and uncertain environment
surrounding business decision
making.
Ø Tool for predicting events related to
operations planning and control.
Ø Vital prerequisite for the planning
process in organizations.
 Forecasting Time Horizon
Criterion Short-term Medium-term Long -term

Typical 1-3 months 12-18 months 5-10 years

duration
Nature of Purely tactical Tactical as well Purely
decisions as strategic strategic
Key Random effects Seasonal and L-T trends and
considerations cyclical effect business cycles
Nature of data Mostly Subjective & Largely
quantitative qualitative subjective
Degree of Low Significant high
uncertainty
Examples Revising New business New product
quarterly development introduction
production
 D e sig n O f F o re ca stin g S y ste m s

• 3 Stage Process:


üDevelop A Forecasting Logic By

Identifying The Purpose, data
And Models To Be Used.
üEstablish Control Mechanisms To
Obtain Reliable Forecasts.
üIncorporate Managerial
Considerations In Using The
Forecasting System.

 Sources Of Data

Ø Sales force estimates

Ø Point of sales data system
Ø Forecast from supply chain
partners
Ø Trade/industry association
journals
Ø B2B portals/Market places
Ø Economic surveys and indicators
Ø Subjective knowledge
M ETH O D S O F
F O R E C A S T IN G
 Time Series
§
§ It Is A Collection Of Data At
Fixed Time Intervals Over
Several Years.
§
§ Forecasting Time Series
Implies That
Predictions About The
Future Values Are Made
Only From Past Data.
 EXAMPLE

YEAR SALES OF FIRM

A (‘000 UNITS)
1987 40
1988 42
1989 47
1990 41
1991 43
1992 48
1993 65
1994 41
COMPENTS OF TIME SERIES

 Secular Trend
 Seasonal Variation
 Cyclical Movements
 Random Movements

 SECULAR TREND

 The General Tendency Of The

Data To
Grow Or Decline Over A Long
Period
Of Time.
YEAR SALES OF YEAR SALES OF
2000 TV
2000SETS 2004 TV
4000SETS
For Example :
2001 2500 2005 4567
2002 3097 2006 5000
2003 3568 2007 5500
 SEASONAL VARIATIONS

Fluctuations That Occur

Periodically- Movements Recurring
Within A Definite Period, May Be A
Every Week Or Month- With
Reasonably High Degree Of
Predictability.

Example ;
For A Soft Drink Manufacturer,
Yearly Sales May Be Increasing But
Sales Are Likely To Be High Every
Summer And Low Every Winter.
 Cyclical movements
These are caused by business
cycles or trade cycles. These
movements are of more than a
year.
Example:
Sales of a company
High- because of prosperity
phase of business cycle
Low- because of depression
 RANDOM MOVEMENTS

They Are Residual Or Erratic

Movements That Do Not Have
Any Set Pattern And Are
Usually Caused By Some
Unpredictable Reasons.
Example :
Flood, Wars, Strikes,
Earthquakes Etc
 TIME SERIES MODELS OF
FORECASTING

 Moving Averages

 Exponential Smoothing

 Trend Projection
 MOVING AVERAGE

 It Attempts To Forecast
Values On The Basis Of The
Average Of The Values Of
Past Few Periods.

 Successive Values Are
Calculated By Considering
New Value And Dropping The
Old One.
SIMPLE MOVING AVERAGE
METHOD

FT = DT-1 + DT-2 +……..+ DT-n

n
FT = Moving Average Forecast For
Period T
D = Actual Demand
N = No. Of Periods For Moving
Average

For 3 Yearly Moving Average

= D1 +D2 +D3
3
SIMPLE MOVING AVERAGE
EXAMPLE

MONTH DEMAND 3-MONTHLY

1 280 MOVING
-
2 288 AVERAGE
-
3 266 -
4 295 278
5 302 283
6 310 287.7
7 303 302.3
 WEIGHTED MOVING AVERAGE

FT = DT-1 WT-1+ DT-2 WT-2+……..+ DT-n

WT-n
WT-1+WT-2+ WT-3
Earlier Example :
WEIGHTED MOVING AVERAGE
= 266*3 + 288*2 + 280*1 = 275.5
3+2+1
 EXPONENTIAL SMOOTHING
 In This Method, The Forecast For Next
Period Is Calculated As Weighted Average
Of All The Previous Values.
 It Is Based On The Premise That The Most
Recent Value Is The Most Important For
Predicting Future Value.
 Also It Presumes That Values Prior To
Current Value Are Also Relevant But In
Declining Importance As We Go Back In
Time.
 The Weights Decline Exponentially As We
Consider The Older Values.
Symbolically,
E X P O N E N T IA L S M O O T H IN G

F T+1 = FT + α( YT – FT)

CHOICE OF SMOOTH CONSTANT

IS IMPORTANT

MEAN ABSOLUTE
DEVIATION(MAD)=
∑ {FORECAST ERROR}
N
Calculate forecasted values and
MAD using
α =0.2 and 0.5 assuming initial
forecast as 208

MONT DEMAN α = 0.2 α = 0.5

1H (t) D (YT) 208
213 FT 5 │YT 208
F
-FT│
T 5 │YT-
2 201 209 8 F T │
210.5 9.5
3 198 207.4 9.4 205.75 7.75
4 207 205.5 1.5 201.87 5.13
TOTAL 23.9 27.38
MAD 5.98 6.845
 CAUSAL METHOD

It Is The Method to Construct A

Forecasting Logic
Through A Process Of Identifying The

Factors
That Cause Some Effect On The

Forecast And
Building A Functional Form Of The

Relationship
Between The Identified Factors.

Simple Regression(Trend Projection)


 ECNOMETRIC MODEL(EM)

• Macro-economic Performance Is
Predicted For A Variety Of Planning
Purposes Using A Large No. Of
Variables.
•
• With The Help Of The Relationship
Between These Variables &
Dependent Variable Several
Predictions Are Made At The Macro-
economic Level & Planning
Exercises Are Undertaken.
•
 DEMERITS

• Developing Such Causal Model Is Time

Consuming & Also Very Expensive.
•
• Demand Specialized Skills Of Model
Building & Analysis.
•
• Requires Use Of Powerful Computing
Environment To Handle Complex &
Numerous Mathematical
Relationships & Regression
Analysis.
 INPUT- OUTPUT ANALYSIS

• It Takes Into Consideration The

Interdependence Of The Different
Sectors In The Economy.
•
• For E.G.- An Input From The Steel
Sector Might Give Rise To An Output
From The Electricity Sector, Which
In Itself Is An Input To The Steel
Sector.
 MERITS D E M E R IT S

v It Takes Into vU tility Is

Account R e stricte d To
 All The Intricate E co n o m ic
 Relationships In A n a ly sis , N o t
C o n sid e rin g T h e
 The Economy.
O th e r B u sin e ss ,
G o v e rn m e n t,
Te ch n o lo g ica l, &
In te rn a l F a cto rs .

vL im ite d A n a ly sis .
 END USE ANALYSIS

•
•
• It Thoroughly Considers All The
Different Uses To Which A Product
Will Be Put & Traces The Entire
Chain Of Uses In Order To Arrive At
A Forecast.
 DEMERITS

• Limited Approach Since It

Considers Only The Demand
Side Picture & Not The Supply
Side Picture.
•
• It Does Not Consider Explicitly
The Various Other Economic
Factors Influencing The
Demand Of A Product.
 Qualitative Models Of Forecasting
• DELPHI METHOD: It Is An Iterative Group
Process And It Employs A Group Of Experts To
Obtain Forecasts.
•
• SALES FORCE COMPOSITE: Each Of The
Members Comprising Sales Force Of A
Company Are Asked To Estimate The Likely
Sales In Their Respective Areas.


• CONSUMER PANEL SURVEY: Here A Consumer

Panel Is Maintained And Consumers On Such A
Panel Are Questioned About Their Purchase
Plans.
 Accuracy Of Forecasts

Wrong forecasts could

create several problems in
the organization as
forecasting forms a key
input to the planning
function.
 Forecast Error

• Forecast error for period t, Et denotes

the difference between the demand
Dt and the forecast Ft for the period.

 Et =Dt - Ft
• Sum of errors is merely the sum of
errors during the period of
consideration which is given by,
 SFE=∑ Ei
 ...Cont


• Mean Absolute Percentage

Error(MAPE)
 MAPE=1/n*∑|Ei|/Di *100
•
• Mean Squarred Error(MSE)
 MSE=1/n*∑ Ei2
