FORECASTING

Daison Dayon Hernandez

Lastimosa Magbutong Nacario
Definition
 Is predicting, estimating, or determining of what will occur in the
future based on a certain set of factors
 To determine how to allocate their budgets or plan for anticipated
expenses for an upcoming period of time.
Major Categories of Forecasting Time Horizons
1. Short-term Forecast – covers one day to one year and used mainly for
short-run control such as employment, purchasing
2. Intermediate-term Forecast – covers a period ranging from one season to
one or two years and used for production schedules, cash flow
3. Long-term Forecast – a period spans from two to five years or more like
market trends, technology and general policy
Forecasting Techniques
1. Qualitative Techniques – based on qualitative data such as the aggregate
opinion of the sales force to forecast the future
2. Time Series Analysis – based solely on historical data accumulated over a
period of time
3. Causal Methods – define as relationships among independent and
dependent variables in a system of related equations
Time Series Methods
1. Simple Moving Average
2. Weighted Moving Average
3. Simple Exponential Smoothing
4. Adjusted Forecast
5. Forecast Reliability
6. Simple Linear Regression
7. Coefficient of Determination
Simple Moving Average
- is the unweighted average of a consecutive number of data points.
- is calculated by adding up the last ‘n’ period’s values and then
dividing that number by ‘n’

Σ(most recent n data values)

Simple Moving Average =
n
Example:
The Beta automobile dealer in Quezon Avenue area wants to accurately
forecast demand for the Beta special edition car during the next month.
Because the distributor is in Korea, it is difficult to send cars back or
recorder if the proper number of cars is not ordered a month ahead.
From sales records, the dealer has accumulated the following data for
the past year.

a. Compute the three and five – month moving average forecast of

demand.
b. Find the Simple exponential smoothing
c. Calculate the adjusted exponential smoothing
d. Evaluate the Forecast Reliability
 Month Motorcycles Demanded
January 60
February 70
March 50
April 90
May 10
June 80
July 150
August 70
September 110
October 150
November 130
 Computation of 3 – Month Moving Average
60+70+50 180 80+150+70 300
April Moving Average = = = 60 September Moving Average = = = 100
3 3 3 3
70+50+90 210 150+70+110 330
May Moving Average = = = 70 October Moving Average = = = 110
3 3 3 3
50+90+10 150 70+110+150 330
June Moving Average = = = 50 November Moving Average = = = 110
3 3 3 3
90+10+80 1800 110+150+130 390
July Moving Average = = = 60 December Moving Average = = = 130
3 3 3 3
10+80+150 240
August Moving Average = = = 80
3 3
Computation of 5 – Month Moving Average
60+70+50+90+10 280
June Moving Average = = = 56
5 5
70+50+90+10+80 300
July Moving Average = = = 60
5 5
50+90+10+80+150 380
August Moving Average = = = 76
5 5
90+10+80+150+70 400
September Moving Average = = = 80
5 3
10+80+150+70+110 420
October Moving Average = = = 84
5 5
80+150+70+110+150 560
November Moving Average = = = 112
5 5
150+70+110+150+130 610
December Moving Average = = = 122
5 5
Period Month Motorcycles 3-Month Moving 5-Month Moving
Demanded Average Average
1 January 60
2 February 70
3 March 50
4 April 90 60
5 May 10 70
6 June 80 50 56
7 July 150 60 60
8 August 70 80 76
9 September 110 100 80
10 October 150 110 84
11 November 130 110 112
12 130 122
 160

140

120

100
Orders

80

60

40 Actual 3-month MA

20
5-month MA

0
Jan Feb March April May June July Aug Sept Oct Nov Dec
Month
Simple Exponential Smoothing
• A weighted moving average technique in which more
weight is given to recent data.

• The formula for the simple exponential smoothing is:

Ft+1 = αYt + (1 – α) Ft
 Month Motorcycles Demanded
January 60

Solution
February 70
March 50
April 90
May 10

Ft+1 = αYt + (1 – α) Ft June 80

July 150
for α = 0.10 August 70
September 110
October 150

F2 = Y1 = 60 November
December
130
?

F3 = (0.1)(70) + (1 – 0.1)(60) F4 = (0.1)(50) + (1 – 0.1)(61)

F3 = 61 F4 = 59.9
 Month Motorcycles Demanded F for α = 0.1 F for α = 0.3
January 60 - -
February 70 60 60
March 50 61 63
April 90 59.9 59.1
May 10 62.91 68.37
June 80 57.62 50.86
July 150 59.86 59.60
August 70 68.87 86.72
September 110 68.98 81.70
October 150 73.08 90.19
November 130 80.77 108.13
December 85.69 114.69
 Figure 9.3: Exponential Smoothing Forecast w/ α =
0.1 and α = 0.3
160
140
Motorcycle Demand

120
100
80
60
40
20
0
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Month
Actual 0.1 0.3
Adjusted Forecasting
• The exponential smoothing forecasting technique
adjusted for trend changes and seasonal patterns.

• The formula for:

Trend Factor : Tt = β ( Ft – Ft-1 )+ (1 – β ) Tt-1
𝟏 −β
Adjusted Forecast: AFt = Ft + ( ) Tt
β
where :
Tt - the present period trend factor
Tt-1 - the last period trend factor
Ft - the present period forecast
Ft-1 - the last period forecast
AFt - the adjusted forecast in the present period
Sample Problem:
The Beta automobile dealer in Quezon Avenue area
wants to accurately forecast demand for the Beta
special edition car during the next month. Because the
distributor is in Korea, it is difficult to send cars back or
recorder if the proper number of cars is not ordered a
month ahead. From sales records, the dealer has
accumulated the following data for the past year.
Calculate the adjusted exponential smoothing.
 Month Motorcycles Demanded
January 60
February 70
March 50
April 90
May 10
June 80
July 150
August 70
September 110
October 150
November 130
December
 Motorcycles
Month F for α = 0.1
Demanded

Solution
January 60 -
February 70 60
March 50 61
April 90 59.9

Let May 10 62.91

June 80 57.62
AF2 = F2 = 60 July 150 59.86
August 70 68.87
T2 = 0 September 110 68.98
for β = 0.20 October 150 73.08
November 130 80.77
December 85.69

For period 3 𝟏 −β
AF3= F3 + ( ) T3
T3 = β ( F3 – F2)+ (1 – β ) T2 β
T3 = 0.2 ( 61 – 60)+ (1 – 0.20) (0) 1 −0.20
AF3= 61 + ( ) (0.20)
T3 = 0.20 0.20
AF3= 61.80
 Month Motorcycles Demanded F for α = 0.1 AF for β = 0.2
January 60 - -
February 70 60 60
March 50 61 61.8
April 90 59.9 59.66
May 10 62.91 65.11
June 80 57.62 55.14
July 150 59.86 59.66
August 70 68.87 75.91
September 110 68.98 74.70
October 150 73.08 80.42
November 130 80.77 93.21
December 85.69 99.57
 Adjusted Exponential Smoothed Forecast w/ α = 0.1 and β = 0.2
160

140

120

100
Motorcycle Demand

80

60

40

20

0
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
Month

Actual 0.1 0.2

Forecast Reliability
• Forecast Reliability measures the closeness of forecast in
reflecting reality.
• The primary objective of forecasting is to make it generally reliable
or to see if it is accurately portraying what actually occurs.

• Mean Absolute Deviation is the measure of the difference

between a forecast and what actually occurs.
 Adjusted Exponential Smoothing Forecast
With Difference Between Actual and Forecast
Motorcycles Forecast, FI+1
Period Month YI− FI+1
Demanded (YI) α = 0.10
1 January 60 ---
2 February 70 60
3 March 50 61 11
4 April 90 59.9 30.1
5 May 10 62.91 52.91
6 June 80 57.62 22.38
7 July 150 59.86 90.14
8 August 70 68.87 1.13
9 September 110 68.98 41.02
10 October 150 73.08 76.92
11 November 130 80.77 49.23
12 December 85.59
For α = 0.10,

σ 𝑎𝑐𝑡𝑢𝑎𝑙−𝑓𝑜𝑟𝑒𝑐𝑎𝑠𝑡
MAD =
𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑝𝑒𝑟𝑖𝑜𝑑𝑠

11+30.1+52.91+22.38+90.14+1.13+41.02+76.92+49.23
MAD =
9

374.83
MAD =
9

MAD = 41.65
For exponential smoothing (α = 0.30),
MAD = 38.72

For adjusted exponential smoothing (α = 0.20),

MAD = 40
WEIGHTED MOVING AVERAGE
| WEIGHTED MOVING AVERAGE , WFt
■ It is a time series forecasting method in which the most recent data are weighted. Smoothing
constant is a weighting factor used in the exponential smoothing forecasting technique.
𝑛

෍ 𝑊𝑖𝑋𝑖
𝑖=1
Where :
WFt is the weighted moving average
Wi is the weight period for i
Xi is the data in period i
SAMPLE PROBLEM
The demand for defense machinery for a certain project is given each month as follows. The
defense officer is asked to forecast the demand for the 11th month using three-period moving
average technique.
MONTH DEMAND
1 120
2 110
3 90
4 115
5 125
6 117
7 121
8 126
9 132
10 128
SOLUTION:

■ The defense officer has decided to use a weighting scheme of 0.5, 0.3, 0.2 and calculated the
weighted moving average for the 11th month as follows.

WFt (3) : F11 = 0.5(128) + 0.3(132) + 0.2(126) = 128.8

SIMPLE LINEAR
REGRESSION
Definition of Terms:
• Simple Linear Regression – a process
of estimating the statistical
relationship between two (2)
variables. It is commonly used as
least-square method.
• Linear Trend – a straight-line trend
wherein the amount of change is
constant each period.
Formula in Finding Regression
σ𝐱
x̄ = a = ӯ - bx̄
𝐧
σ𝐲 σ𝐱𝐲 −𝐧x̄ӯ
ӯ= b= 𝟐
𝐧 σ𝐱 𝟐 −𝐧x̄
ŷ = a + bx
Where: x = independent variable
y = dependent variable
n = number of ordered pairs
x̄ = mean of the independent variable
ӯ = mean of the dependent variable
a = intercept
b = slope
ŷ = predicted value of the independent variable
Example. The Delta Foods Inc. believes its sales are directly
related to the amount of money it spends on promotion. The
company has accumulated the following data on promotional
expenditures and sales for the past ten years.
Annual Promotional Annual Sales (P100,000)
Expenditures (P100,000)
8 65
14 9
10 84
13 95
15 97
18 100
19 105
20 111
24 120
29 123
a. Develop a simple regression equation for
these data.
b. Plot the actual data on a scatter diagram and
superimpose the regression line on it.
c. For a promotional expenditure of
P2,500,000, what level of sales would the
company expect?
a. Let x = Annual promotional expenditure
y = Annual sales
Step 1. Complete the necessary values needed in the formula.

x y xy 𝐱𝟐
8 65 520 64
14 90 1260 196
10 84 840 100
13 95 1235 169
15 97 1455 225
18 100 1800 324
19 105 1995 361
20 111 2220 400
24 120 2880 576
29 123 3567 841
σ𝐱 = 170 σ𝐲 = 990 σ𝐱𝐲 = 17772 σ𝐱 𝟐 = 3256
Step 2. Compute for the mean
values of x and y.
σ𝐱 170
x̄ = = = 17
𝐧 10

σ𝐲 990
ӯ= = = 99
𝐧 10
Step 3. Determine the values of the slope
and intercept.
σ𝐱𝐲 −𝐧x̄ӯ 17772 −10(17)(99)
b= 𝟐 = = 2.57
σ𝐱 𝟐 −𝐧x̄ 3256 −10(172 )

a = ӯ - bx̄ = 99 – 2.57(17) = 55.31

Step 4. Substitute the values of a and b

simple linear regression formula.
ŷ = a + bx = 55.31 + 2.57(x)
 b. Plot the points of given problem.
Scatter Diagram and Regression Line
160

140
Trend Line
120
Annual Sales (P100,000)

29, 123
24, 120
20, 111
100 19, 105
18, 100
13, 95 15, 97
14, 90
80
10, 84

60 8, 65

40

20

0
0 5 10 15 20 25 30 35

Annual Promotional Expenditures (P100,000)

c. If the company spends P2,500,000 in
promotion or when x=25 the projected
sales will be
ŷ = a + bx = 55.31 + 2.57(25) = 119.56

It means that the company will expect

P11,956,00 sales if they will spend that
much in their promotion.
COEFFICIENT OF
DETERMINATION
Coefficient of Determination – is a
measure of strength of the
relationship of the variables in a
regression equation. It is used to
determine whether the regression
equation is a reliable forecast
method.
𝟐 𝐧𝚺𝐱𝐲 − 𝚺𝐱𝚺𝐲 𝟐
𝐫 ={ }
√[𝐧𝚺𝐱 𝟐 − σ𝐱)𝟐 [𝐧𝚺𝐲 𝟐 − σ𝐲)𝟐
Step 1. Complete the necessary values needed
in the formula including y 2 .
x y xy 𝐱𝟐 𝐲𝟐
8 65 520 64 4225
14 90 1260 196 8100
10 84 840 100 7056
13 95 1235 169 9025
15 97 1455 225 9409
18 100 1800 324 10000
19 105 1995 361 11025
20 111 2220 400 12321
24 120 2880 576 14400
29 123 3567 841 15129
σ𝐱 = 170 σ𝐲 = 990 σ𝐱𝐲 = 17772 σ𝐱 𝟐 = 3256 σ𝒚𝟐 = 𝟏𝟎𝟎𝟔𝟗𝟎
Step 2. Compute for r 2 .
nΣxy − ΣxΣy
r2 ={ } 2
√[nΣx2 − σx)2 [nΣy2 − σy)2
10(17772) −(170)(990)
r2 ={ }2
√[10(3256)− 170)2 [10(100690)− 990)2
r 2 = 0.90

Step 3. Interpret the solution of r 2 .

This value for the coefficient of determination means
that 90% of the amount of variations in the attendance
during the ten-year period of analysis can be explained
by promotional expenditure. The remaining 10% is due
to unexplained factors related to attendance.