Forecasting

MGT 2; GROUP 1
 What is
Forecasting?
 Forecast
• Forecasting is a statement about the
future value of a variable such as
demand.
• It is a basicinput in the decision process of
operation management because they
provide information on
future demand.
• The primary goal of operations is to match
supply to demand.
Two Important aspects of
forecasting

1. Expected level of demand

☛ This can be a function of some structural
variation, such as a trend or
seasonalvariation
2. The degree of accuracy that can be
assign to a forecast
☛ Forecasts accuracy is a function of the
ability of forecaster correctly model
demand, random variation, and sometimes
unforeseen events.
importance of
forecasting in the
planning process
 Accounting. New product/ process cost estimates, profit
projections, cash management.

Finance. Equipment/ equipment replacement needs, timing

and amount of funding/borrowing needs

Human resources. Hiring activities, including

recruitment, interviewing, training, lay off
planning, including outplacement counselling.

Marketing. Pricing and promotion, e-business

strategies, global competition strategies.
 MIS. New/ revised information systems, Internet services.

Operations. Schedules, capacity planning, work

assignment and workloads, inventoryplanning, make-or –
buy decisions, outsourcing, and project management.

Product/ service design. Revision of current features,

design of new product or services.
TWO USES OF FORECASTS:

1. To help manager plan the

system

2. To help them plan the use of the

system.
Features common to all
forecasts
1. Forecasting techniques generally assumes that the
same underlying causal system that existed in the
past will continue to exist in the future.
2. Forecasts are not perfect; actual results usually
differ from predicted values; the presenceof
randomness precludes a perfect forecasts. Allowance
should be made for forecast errors.
3. Forecasts for groups of items tend to be more accurate
than forecasts for individual itemsbecause forecasting
errors among items in a group usually have a cancelling
effect.
4. Forecasts accuracy decreases as the time period
covered by the forecasts – the timehorizon- increases.
Generally speaking, short range forecasts must contend
with feweruncertainties than longer-range forecast, so
they tend to be more accurate.
Elements of a good
Forecasts
1. The forecast should be timely.

2. The forecast should be accurate, and the degree of

accuracy should be stated.

3. The forecast should be reliable: it should work consistently.

4. The forecasts should be expressed in meaningful

units.
5. The forecasts should be in writing.
6. The forecasts techniques should be simple to
understand and use.
7. The forecasts should be cost- effective: the benefits
should overweigh the cost.
Steps in Forecasting
Process
1. Determine the purpose of
the forecast.

2. Establish a time horizon.

3. Select forecasting
technique.
4. Obtain, clean, and analyse
appropriate data.
5. Make the forecasts.

6. Monitor the forecasts.

Two General Approaches
to Forecasting
 Qualitative methods
Consist mainly of subjective inputs,
which often defy precise numerical
description.

Quantitative methods
Involves either the projection of historical data or
the development of associativemodels that
attempt to utilize causal (explanatory) variables
to make a forecasts.
Accuracy and Control of Forecasts
• Accuracy and control of forecasts is a vital aspect of
forecasting. Thus, minimizing forecasterror is every
forecasters objective. However, the complex nature of real-
world variables makes it almost impossible to correctly
predict future values of those variables.
• When making periodic forecasts, it is important to monitor
forecast errors to determine if theerrors are within
reasonable bounds.
• . Forecast Error - difference between the actual value and the
value that was predicted for a givenperiod.
Hence, Error = Actual – Forecasts
Positive errors result when the forecast is too low,
negative errors when the forecasts is toohigh
Summarizing Forecast accuracy

Three commonly used measures for summarizing historical

errors are:
Mean Absolute Mean Absolute
Mean Squared
Deviation Percent
Error (MSE)
(MAD) Error(MAPE)
The average The average of The Average absolute
absolute error squared errors. percent error.
Forecasting Techniques

Judgemental forecasts
Associative models
Rely equation
Use on analysis of subjective
that consist of inputs obtained from
one more
various sources,
explanatory such asconsumer
variables that can besurveys,
used the sales
staff, managers
topredict demand.and executives, and panels of experts.
Time-series forecast
Simply attempt to project past experience into
the future.These techniques use historical data
with the assumption that the future will be like
the past period.
Forecast based on Judgement and
Opinion:
Executive opinions

Salesforce opinions

Consumer surveys

Other approaches
Forecasts based on Time-series Data:

Time- series – is a time-ordered sequence of observations taken at

regular intervals. Forecasting techniques based on time-series
data are made on the assumptions that future values of the series
can be estimated from past value.

Analysis of time-series data requires the analyst to identify

the underlying behaviour of the series. These behaviours can
be described as follows:
Trends
• Refers to a long-term upward or downward movement in the
data.
Seasonality
• Refers to a short term, fairly regular variations generally related to
factorssuch as the calendar or time of day.

Cycles
• Are wavelike variations of more than one year’s
duration.
Irregular variations
• Caused by unusual circumstances, not reflective or typical
behaviour
Random variations
• Are residual variations that remain after all other behaviors have
been
Naïve forecasts
A simple way but widely used approach to forecasting is
the naive approach. A naive forecast uses a single previous
value of a time series as the basis of a forecast.
The naive approach can be used in the following:
Stable series- the last data point becomes the
forecast for the next period

Seasonal variations – forecast for the next

“season” is equal to the value of the series last
“season”

Trend – forecast is equal to the last value of the

series plus or minus the difference between the
last two values of the series.
Techniques for Averaging

Averaging techniques smooth fluctuations in a time series

because the individual high and lows in the data offset each
other when they are combined into an average. A forecast
based on the average thus tend to exhibit less variability
than the original data. Averaging techniques generate
forecasts that reflect recent values of a time series (e.g. the
average value over the last several periods)

Three techniques foraveraging

are described as follows:
1. Moving average.
2. Weighted moving average.
3. Exponential smoothing
Moving average
- forecasts uses a number of the most recent actual data values in
generating a forecasts.

Ft = Forecast for time period t

MAn = n period moving average
At – 1 = Actual value in period t – 1
n = Number of periods (data points) in the moving average

For example, MA₃ would refer to a three-period moving

average forecasts, and MA₃ would refer to a five- period
moving average forecasts. Compute the three period
moving average forecasts given demand for shopping carts
for the last five periods.
If actual demand in period 6
turns
out to be 38, the moving
average
forecast for period 7 would be
Weighted Average

is similar to a moving average, except that it assigns more

weight to the most recent values in a time series. For
instancethe most recent value migth be assign a weight of 40,
the next most recent value a weight of 30, the next after that
weight of 20, and the next after that a weight of 10, . Note that
the weights must sum to 1.00, and that the heaviest weight
areassign to the
Ft = Wt (At) most recent
+ Wt-1 values.
(A1-1)+… + Wt- n(At-n)

Where
Wt= weight for the period t,
Wt-1 = weigth for period t-1, etc.
At= actual value in period t,
At-1= actual value for period t-1, etc
Given the following demand data,
a. Compute a weighted average forecast using a weight of .40
for the most recent period, .30 for the next most recent, .20 for
the next, and .10 for the next.
b. If the actual demand for period 6 is 39, forecast demand for
period 7 using the same weights as in part a.

Solution:
F6 = .10(40) + .20(43) + .30(40) + 40(41) = 41.0
F7 = .10(43) + .20(40) + .30(41) + .40(39) = 40.2
Exponential smoothing

is a sophisticated weighted averaging method that is still

relatively easy to use anda understand. Each new forecast
is based on the previous forecasts plus a percentage of
the difference between the forecasts and the actual value
of the series at that point. That is:

Ft = Forecast for period t

Ft– 1 = Forecast for the previous period (i.e., period
t = 1)
α = Smoothing constant
At– 1 = Actual demand or sales for the previous
The smoothing constant a represent a percentage of the
forecasts error. Each new forecasts is equal to the
previous forecasts plus a percentage of the previous
error. For example, suppose the previous forecasts was
42 units, actual demand was 40 units, and α =.10. the
new forecsts would be computed as follows:

Ft =42 +.10 (40-42)= 41.8

Then, if the actual demand turns out to be 43, the next

forecasts would be

Ft = 41.8 + .10 (43-41.8) = 41.92

THANK YOU!
Presented by:
Ronald Alagos
Kirstin Mei
Pondales
Marielle Cajurao
Greciary Zamora