1

Md. Moi n Uddi n (Mamun)

Industrial and Production Engineer
BSC Eng. (SUST), MEng.(BUET)
E-Mail Mamun_ipe@yahoo.com
Mob: 01730739318
11/27/2013 1
Forecasting
Lecture outline:
Introduction
Forecasting time horizons
Types of forecasts
Seven steps in the forecasting system
Demand Patterns
Forecasting approaches
Qualitative approaches
Quantitative approaches
Measure of forecasting accuracy
Example
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2
Forecasting time horizons
Short rangeforecast: Thisforecast hasatimespanof upto1year
but isgenerallylessthan3months.
It is used for planning, job scheduling, workforce levels, job
assignmentsandproductionlevels.
Medium range forecast: A medium-range or intermediate,
forecast generallyspansfrom3monthsto3years.
It is used for sales planning, production planning and
budgeting, cashbudgetingandanalyzingvariousoperatingplans.
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Introduction
The art and science of predicting future events.
Long range forecast: Generally 3 years or more in time span, long-range
forecasts are used in planning for new products, capital expenditures, facility
location or expansion and research and development
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3
Types of forecasts
1.Typesof Forecastinginbusiness:
Organizations use the three major types of forecasts in future
operationsplanning:
1.Economic forecasts address the business cycle by predicting
inflation rates, money supplies, housing starts, and other planning
indicators
2.Technological forecastsareconcernedwithratesof technological
progress, whichcanresult inthebirthof excitingnewproductsrequiring
newplantsandequipment
3.Demand forecasts are projections of a companys products or
servicesit alsocalledsalesforecasts
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2.Types of Forecasting in Decision Making:
Marketing
Demand forecasting of products
Forecast of market share
Forecasting trend in prices
Production
Forecast of
Materials requirements
Trend in material and labor costs
Maintenance requirements
Plant capacity
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4
Finance
Forecast of
Cash flows
Rates of expenses
Revenues
Personnel
Forecast of
Number of workers in each category
Labor turn over
absenteeism
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Seven steps in the forecasting system
1) Determine the use of the forecast
2) Select items to be forecast
3) Determine the time horizon of the forecast
4) Select the forecasting models
5) Gather the data needed to make the forecast
6) Make the forecast
7) Validate and implement the results
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5
Demand Patterns
Forecasting is based on the pattern of events in the past. A pattern
maysolelyexist asafunctionof time. Suchapatterncanbeidentified
directly fromhistorical data. Another pattern consists of relationship
between two or more variables. So it is important to understand the
most commondemandpatterns.
Historical pattern(Stationarypattern): Thisexistswhenthere
is no trend in data and when the mean value does not change over
time.
Example: Products with stable sales. Moving, weighted moving and
exponential smoothingetc approachesareused.
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Fig: Historical pattern
(Stationary pattern)
Fig: Level demand
pattern
time time
F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
Seasonal demand pattern: This demand pattern exists when the
series fluctuates according to some seasonal factor. The season may be
months, quarters, weeks, etc. sale of refrigerators, sale of refrigerators, sale
of soft drink, sale of wool items, etc.
Cyclical pattern: In this type of pattern the length of a single cycle is
longer than a year. This cycle does not repeat at constant intervals of time.
The best examples are the prices of some metals, gross national product,
etc.
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F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
time
Fig: seasonal
demand pattern
F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
time
Fig: seasonal
demand pattern
6
Trend pattern: This type of pattern exists when there is an increase
or decrease in the value of the variable over time. The examples are
sales many products, stock prices, business and economic indicators.
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F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
time
Fig: Cyclical pattern
F
o
r
e
c
a
s
t

v
a
r
i
a
b
l
e
time
Fig: Trend pattern
Forecasting Models / Approaches
1. Qualitativeforecasts:
It use subjective approaches. These are useful where no data is
available and are useful new products. It forecasts that
incorporate such factors as the decision makers intuition,
emotions, personal experiencesandvaluesystems.
2. Quantitativeforecasts:
It is based on historical data. These are more accurate and
computerscanbeusedto speeduptheprocess. It forecasts that
employone or moremathematical models that rely onhistorical
dataandcausal variablestoforecast demand.
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7
Qualitative methods
1. Jury of executive opinion: A forecastingtechniquethat takes
the opinion of a small group of high-level managers and results in a
groupestimateof demand.
2. Delphi methods: A forecasting technique using a group
processthat allowsexpertstomakeforecasts.
3. Sales forces composite: A forecasting technique based on
salespersonsestimatesof expectedsales.
4. Consumer market survey: A forecastingmethod that solicits
input from customers or potential customers regarding future
purchasingplans.
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Quantitative Methods
Timeseriesmodels: Aforecastingtechnique that usingaseries of past
datepointstomakeaforecast.
Associative (or causal) models: such as linear regression, incorporate
thevariablesor factorsthat might influencethequantitybeingforecast.
Timeseriesmodelsaregivenbelow:
1.Naiveapproach: Aforecastingtechniquethat assumesdemandinthe
next periodisequal todemandinthemost recent period.
2.Movingaverage: Aforecastingmethod that uses an average of the n
most recent periodsof datatoforecast thenext period.
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Month Actual shed sales 3 month movingaverage
January 10
February 12
March 13
April 16 (10+12+13)/3=11.667
May 19 (12+13+16)/3=13
June 23 (13+16+19)/3=16
July 26 (16+19+23)/3=19
August 30 (19+23+26)/3=22
September 28 (23+26+30)/3=26
October 18 (26+30+28)/3=28
November 16 (30+28+18)/3=25
December 14 (28+18+16)/3=20
Month Actual shed sales 3 month Weighted moving average
January 10
February 12
March 13
April 16 (.2*10+.3*12+.5*13)/1=12.1
May 19 (.2*12+.3*13+.5*16)/1=
June 23 (.2*13+.3*16+.5*19)/=
July 26 (.2*16+.3*19+.5*23)/1=
August 30 (.2*19+.3*23+.5*26)/1=
September 28 (.2*23+.3*26+.5*30)/1=
October 18 (.2*26+.3*30+.5*28)/1=
November 16 (.2*30+.3*28+.5*18)/1=
December 14 (.2*28+.3*18+.5*16)/1=
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9
To be continue
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4.Exponential smoothing
A weighted moving average forecasting technique in which data points
are weighted by an exponential function.
Formula :
New forecast =last periods forecast + (Last periods actual demand
Last periods forecast)
Where is a weight, or constant , chosen by the forecaster, that has a
value between 0 and 1.
Now F
t
=F
t-1
+( A
t-1
F
t-1
)
Where F
t
=New forecast
F
t-1
=Previous forecast,
A
t-1
=Previous periods actual demand
and =smoothing ( or weighting) constant ( 0 1)
If is not given than =2 / (n+1) [n =no of period ]
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10
Example
In January , a car dealer predicted February demand for 142 Ford
Mustangs. Actual February demand was 153 autos. Using a smoothing
constant chosen by management of =.20, we can forecast March
demand using the exponential smoothing model.
Answer:
New forecast (for March demand) =142 +.2( 153-142)
=142+2.2
=144.2
Thus, the March demand forecast for Ford Mustangs is rounded to 144.
Note: the smoothing constant, , is generally in the range from .05 to
.50 for business applications.
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Weight Assigned to
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Smoothing
constant
Most
recent
period
)
2
nd
Most
recent
period
(1-)
3
rd
Most
recent
period
(1-)
2
4
th
Most
recent
period
(1-)
3
5
th
Most
recent
period
(1-)
4
=0.1 0.1 0.09 0.081 0.073 0.066
=0.5 0.5 0.25 0.125 0.063 0.031
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5.Linear Regression
Regression means dependenceand involves estimating the value of a
dependent variable Y, from an independent variable X. In simple
regression, only one independent variable is used, whereas in multiple
regression two or more independent variable are involved. The simple
regression takes the following form
Y =a +bX
Where
Y - dependent variable
X independent variable
a intercept
b slope (trend)
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These are represented in the following graph:
[The model for multiple linear regression is shown below:
Y =a +b
1=
X
1
+b
2
X
2
+b
3
X
3
+b
i
X
i
++b
n
X
n
]
The formulas to compute the constants of the model are given below
b =Which is written by hand.
a =Which is written by hand.
And n is the umber of pairs of observations made.
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Y
X
a
b
Fig: Graph showing simple regression
12
Exampl e
A firm believes that its annual profit depends on its expenditures for
research. The information for the preceding six years is given below.
Estimate the profit when the expenditure is 6 units.
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Year Expenditure for research (X) Annual profit (Y)
1 2 20
2 3 25
3 5 34
4 4 30
5 11 40
6 5 31
7 6 ?
Solution:
X bar =30/6 =5 and Y bar =180/6 =30
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Year X Y XY X
2
1 2 20 40 4
2 3 25 75 9
3 5 34 170 25
4 4 30 120 16
5 11 40 440 121
6 5 31 155 25
Total 30 180 1000 200
13
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b =2
And a =20
The model is :
Y =a +bX
=20 +2X
The profit when expenditure is 6 units:
Y =20 +2 * 6
=32
Measure of forecasting accuracy
Some common measures are inevitable to measure the accuracy of a
forecasting technique. This measure may be an aggregate error (deviation)
of the forecast values from the actual demands. The different types of
errors which are generally computed are as presented below.
1. Mean Absolute Deviation (MAD)
2. Mean Square Error (MSE)
3. Mean Forecast Error (MFE)
4. Mean Absolute Percent Error(MAPE)
The formula for error is given below.
e
t
=D
t
F
t
Where
D
t
=demand for the period t.
F
t
=forecast demand for the period t, and
e
t
=forecast error for the period t.
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14
Mean Absolute Deviation (MAD)
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Mean Square Error (MSE)
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15
Mean forecast error (MFE)
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Example
Suppose that a forecast of 165 units had been made for the demand in
every period for the data given in table. The calculation of these errors
are as shown in the last two columns of table.
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t
Demand
D
t
Forecast
F
t
Deviation
D
t
- F
t
Absolute
Deviation
D
t
- F
t
Squared
Error
(D
t
F
t
) 2
1 150 165 -15 15 225 -10 10
2 160 165 -5 5 25 -3.125 3.125
3 165 165 0 0 0 0.00 0.00
4 175 165 +10 10 100 5.710 5.71
5 180 165 +15 15 225 8.330 8.330
Total +5 45 575 27.165
16
MAD =45/5 =9
MSE =575/5 =115
MAPE =27.165/5 =5.433%
MFE =+5 / 5 =+1
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Thanks to all
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