Forecasting

DISC 333: SUPPLY CHAIN MANAGEMENT

 Forecasting in Operations Function

Forecasting allows predicting future values of a

series based on past observations;

In supply chain the primarily interest is in

forecasting product demand;

Trends, cycles and seasonal variation may be present

in past observations that help us to predict future
demand more closely.
Forecasting Horizon in Supply Chain Planning

Long (Months / Years)

Capacity needs, Long-term sales patterns, Growth trends

Intermediate (Weeks / Months)

Product family sales, Labor needs, Resource requirements

Short (Days / Weeks)

Short-term sales, Shift schedule, Resource requirements
 Characteristics of Forecasts

They are usually wrong.

A good forecast is more than a single number.

Aggregate forecasts are more accurate.

The longer the forecast horizon, the less accurate the
forecast will be.

Forecasts should not be used to the exclusion of
known information.
 Benefits of Forecasting

Lower inventories

Reduced Stock-outs

Smoother production and supply-chain plans

Reduced production costs

Improved customer service

Etc.
 Forecasting Methods

Qualitative (or Subjective) Methods:

Forecasts based on subjective judgment or opinion
 Sales Force Composites
 Customer Surveys
 Jury of Executive Opinion
 Delphi Method

Quantitative (or Objective) Methods:

Forecasts are derived based on an analysis of data.
 Time Series Forecasting Models
 Causal or Associative Models
 Time Series Forecasting Models

Information can be inferred from the pattern of past

observations and can be used to forecast future values of
the series.

Observations about past values are drawn at discrete points

in time, usually equally spaced.

Time series include various patterns of data:

Trend

Seasonality

Cycles

Randomness
 Simple Moving Average Forecasting Model

A moving average of order N is simply the arithmetic

average of the most recent N observations.

For one step ahead forecasts for most recent N
observations:
t −1
Ft = (1 / N ) ∑ Ai = (1 / N )( At −1 + At − 2 + ... + At − N )
i =t − N

or
t
 t −1

Ft +1 = (1 / N ) ∑ Ai = (1 / N )  At + ∑ Ai − At − N 
i = t − N +1  i =t − N 

Ft +1 = Ft + (1 / N )[ At − At − N ]
 Example: Simple Moving Average

Consider a demand
Period Demand MA(3) MA(6)
process 2, 4, 6, 8,
10, 12, 14, 16, 18, 20, 1 2
22, 24 in which 2 4

there is a definite 3 6
4 8 4
trend. 5 10 6
6 12 8

Consider the MA(3) 7 14 10 7

8 16 12 9
and MA(6) 9 18 14 11
10 20 16 13
11 22 18 15
12 24 20 17
Simple Moving Average Forecasting Model (Excel)

Period Demand Forecast MA(3) Forecast MA(6) Moving Average MA(3)

1 2 #N/A #N/A 30
25
2 3 #N/A #N/A 20

Value
15
3 10 5 #N/A 10 Actual
5 Forecast
4 8 7 #N/A 0
1 2 3 4 5 6 7 8 9 10 11 12
5 12 10 #N/A
Data Point
6 18 12.66666667 8.833333333
7 24 18 12.5
Moving Average MA(6)
8 26 22.66666667 16.33333333
30
9 20 23.33333333 18

Value
20

10 16 20.66666667 19.33333333 10 Actual

0 Forecast
11 22 19.33333333 21
1 2 3 4 5 6 7 8 9 10 11 12
12 24 20.66666667 22 Data Point

Con: Less responsive to changes

in demand.
 Weighted Moving Average Forecasting Model

t
Ft +1 = ∑w A
i =t − N +1
i i

Allows more emphasis to be placed on recent or past

data.

Weights can be determined by experience of the
forecaster.

Still not responsive enough to track changes in
demand.
 Weighted Moving Average (Example)

Perio
d Demand Weights Forecast MA(3) 30

1 2 0.2 25

2 3 0.2 20
3 10 0.6
15 Actual
4 8 7 Forecast
10
5 12 7.4
6 18 10.8 5

7 24 14.8 0
1 2 3 4 5 6 7 8 9 10 11 12
8 26 20.4
9 20 24
10 16 22
11 22 18.8
12 24 20.4
 Exponential Smoothing Forecasting Model

Is a sophisticated weighted moving average technique.

Forecast for next period’s demand is the current period’s forecast
adjusted by a fraction of the difference between the current
period’s actual demand and its forecast.

Requires less data to be implemented, thus is more widely
practiced technique.

Suitable for data that show little trend or seasonal patterns.

Ft = α At −1 + (1 − α ) Ft −1
where 0 < α ≤ 1 is the smoothing constant, determines relative weight placed on demand

Ft = Ft −1 − α ( Ft −1 − At −1 )
Ft = Ft −1 − α et −1
 Exponential Smoothing Forecasting Model

If we forecast high in period t-1, et-1 is positive and the

adjustment is to decrease the forecast. And vice versa.

If α is large, more weight is given to the current

observation and less weight on past observations,

which results into a forecast that will react quickly to

changes in the demand pattern but may have much
greater variation from period to period.
 Exponential Smoothing (Example)

Period Demand Forecast

1 2 #N/A Exponential Smoothing
2 3 2 30
3 10 2.7 25
4 8 7.81 20
5 12 7.943

Value
15
6 18 10.7829 Actual
10
7 24 15.83487 Forecast
5
8 26 21.550461 0
1 2 3 4 5 6 7 8 9 10 11 12
9 20 24.6651383
Data Point
10 16 21.3995415
11 22 17.6198624
α = 0.3 (assumed)
12 24 20.6859587
 Trend Based Exponential Smoothing
Forecasting Model

Ft = α At −1 + (1 − α )( Ft −1 + Tt −1 )
Tt = β ( Ft − Ft −1 ) + (1 − β )Tt −1
and the trend - adjusted forecast is

TAFt + m = Ft + mTt

Higher the β higher the emphasis on recent trend

changes.

α & β are determined by trial and error approach.
 Linear Trend Forecasting Model

Simple linear regression can be used to fit a line to the time

series historical data.

Linear trend method minimizes the sum of squared deviations
to determine the characteristics of the linear equation:

( x1 , y1 ), ( x2 , y2 ),..., ( xn , yn ) be n paired data points for X & Y

X = Independent Variable
Y = Dependent Variable
Suppose a linear relationship exists between X and Y, then
∧
Y = b +b X
0 1
 Linear Trend Forecasting Model

∧
where, Y = predicted value of Y
x = time variable
b 0 = intercept of the line, and
b1 = slope of the line

n∑ ( xy ) − ∑ x ∑ y
b1 =
n∑ x 2 − (∑ x ) 2

b0 =
∑ y −b ∑ x1

n
 Linear Trend Forecasting Model (Example)

What is the trend line and forecast for Period-13 for

the following data?

Period Demand Period Demand Period Demand

1 1600 5 2500 9 3900
2 2200 6 3500 10 4700
3 2000 7 3300 11 4300
4 1600 8 3200 12 4400
Linear Trend Forecasting Model (Example)

Period Demand
b1 = [12(282,800) – 78(37,200)] /

(x) (y) x2 xy [12(650) -78*78]
1 1600 1 1600
= 286.71
2 2200 4 4400
3 2000 9 6000
4 1600 16 6400 • b0 = [37,000 – 286.71(78)]/12
5 2500 25 12500 = 1,236.4
6 3500 36 21000
7 3300 49 23100
8 3200 64 25600 Y = 1,236.4 + 286.71 x
9 3900 81 35100
10 4700 100 47000
11 4300 121 47300 F13 = 1236.4 + 286.71 (13) = 4963.5
12 4400 144 52800
∑y = ∑x2 = ∑xy =
37200 650 282,800
 Linear Trend Forecasting Model (Example)

Period (x) Demand (y) Forecast

1 1600 1523.0769
5000
2 2200 1809.7902
4500
3 2000 2096.5035
4000
4 1600 2383.2168
3500
5 2500 2669.9301 3000
6 3500 2956.6434 2500 Actual
7 3300 3243.3566 2000 Forecast

8 3200 3530.0699 1500

9 3900 3816.7832 1000

10 4700 4103.4965 500

0
11 4300 4390.2098
1 2 3 4 5 6 7 8 9 10 11 12
12 4400 4676.9231

Slope 286.7132867
Intercept 1236.363636
 Associative Models

One or several external variables are identified that are

related to demand, which are easier to determine than
demand.

Once the relationship between the external variable and

demand is determined, it can be used as a forecasting tool.

Y = Phenomenon to be forecasted

X1 , X2 ,…, Xn = Variables affecting the phenomenon, then

Y = f(X1 , X2 ,…, X n)
 Forecast Accuracy

At = observed demand during periods t, assume {At , t ≥ 1}

Ft = forecast made for period t during period t-1, one step ahead forecast
et = forecast error, then
et = Ft − At
If e1 , e2 ,..., en = forecast errors observed over n periods
n
MAD = mean absolute deviation = (1 / n)∑ ei
i =1
n
MSE = mean squared error = (1 / n)∑ ei2
i =1
n
MAPE = mean absolute percentage error = (1 / n)∑ ei / Di
i =1
 Forecast Accuracy

n
Running sum of forecast errors (RSFE) = ∑e
t =1
t

RSFE
TrackingSignal =
MAD

A number of parameters have been defined. Each

one of which provide some sort of advantage over the
other.

Many organizations set targets for Tracking Signal as
a means to improve their forecasts.
 Collaborative Planning, Forecasting, and
Replenishment (CPFR)

The objective of CPFR is to optimize the supply chain

by improving demand forecasting, delivering the
right product at the right time to the right location,
reducing inventories across the supply chains,
avoiding stock-outs, and improving customer
service.

The real value of CPFR comes from an exchange of
forecasting information rather than from more
sophisticated forecasting algorithms to improve
forecasting accuracy.
CPFR Process