Chapter Three:

Forecasting Market Demand,

Sales Budgets, and Sales Quotas
Yalew Mamo
3.1. Forecasting Market Demand
• Market opportunity analysis requires an understanding
of the differences in the notions of market potential,
sales potential, sales forecast, and sales quota.
• Market potential is an estimate of the possible sales
of a commodity, a group of commodities, or a service
for an entire industry in a market during a stated period
under ideal conditions.
• A market is a customer group in a specific geographic
area.
Continued
• Sales potential refers to the portion of the market
potential that a particular firm can reasonably expect to
achieve.
• Market potential represents the maximum possible
sales for all sellers of the good or service under ideal
conditions, while sales potential reflects the maximum
possible sales for an individual firm.
Continued
• The sales forecast is an estimate of the dollar or unit
sales for a specified future period. The forecast may be
for a specified item of merchandise or for an entire
line. It may be for a market as a whole or for any
portion of it.
Sales Forecasting
• What is sales forecasting
• Why sales forecasting is important
• Understand the sales forecasting process
3.2. The Forecasting Process
Preparing for Sales Forecasting
• Define your market category
• Understand market dynamics
• Select a forecasting technique
3.3. Sales Forecasting Methods
• The sales forecast is one of the most important
information tools used by management and lies at the
heart of most companies’ planning efforts.
• Top management uses the sales forecast to allocate
resources among functional areas and to control the
operations of the firm.
• Finance uses it to project cash flows, to decide on
capital appropriations, and to establish operating
budgets.
• Production uses it to determine quantities and
schedules and to control inventories.
Continued

• Human resources uses it to plan personnel requirements

and also as an input in collective bargaining.
• Purchasing uses it to plan the company’s overall
materials requirements and also to schedule their arrival.
• Marketing uses it to plan marketing and sales programs
and to allocate resources among the various marketing
activities.
• The importance of accurate sales forecasts is
exacerbated as companies coordinate their efforts on a
global scale.
 Continued
• The sales forecast is also of fundamental importance in
planning and evaluating the personal selling effort.
• Sales managers use it for setting sales quotas, as input to
the compensation plan, and in evaluating the field sales
force, among other things.
• Because sales managers rely so heavily on sales forecasts
for decision making, and also are integral to the
formulation of sales forecasts, it is important that they be
familiar with the techniques used in forecast development.
• The subjective and objective methods discussed in the next
slides.
Classification of Sales Forecasting Methods
 Objective Methods of Forecasting or
Quantitative Methods
• Objective forecasting methods rely primarily on
more sophisticated quantitative (empirical) analytical
approaches in developing the forecast.
• To use quantitative method you need to have
historical data.
• Collect data
The Rollover Technique
• A rolling forecast is a specific type of forecast that
continually drops a completed period and adds another
period extending by the same amount in the future.
• To illustrate, consider a 12-month rolling forecast that
begins in January 2023 and goes through December
2023.
• When the actual results of January 2023 are finalized,
the rolling forecast would be recalculated to cover
February 2023 through January 2024.
Continued
• In this way, the forecast always includes 12 months,
sliding forward after each month ends.
Moving Average
• The moving average method is conceptually quite
simple. Consider the forecast that next year’s sales will
be equal to this year’s sales.
• Such a forecast might be subject to large error if there
is much fluctuation in sales from one year to the next.
• To allow for such randomness, we might consider
using some kind of average of recent values.
Continued
• A moving average forecast uses a number of the most
recent actual data values in generating a forecast. The
moving average forecast can be computed using the
following equation:

• F t = Forecast for time period t

• MAn = n period moving average
• A t –i = Actual value in period t - i
• n = Number of periods (data points) in the moving average
Continued
• For example, MA3 would refer to a three-period
moving average forecast, and MA5 would refer to a
five-period moving average forecast.
• Compute a three-period moving average forecast given
demand for shopping carts for the last five periods.
Weighted Moving Average
• A weighted average is similar to a moving average,
except that it assigns more weight to the most recent
values in a time series.
• For instance, the most recent value might be assigned a
weight of .40, the next most recent value a weight
of .30, the next after that a 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 weights are assigned to the most recent
values.
Continued

where
• w t Weight for the period t, w t-1 Weight for period t -1, etc .
• A t Actual value in period t, A t -1 Actual value for period t -
1, etc.
Continued
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.
2Exponential Smoothing
• Exponential smoothing is a type of moving average.
However, instead of weighting all observations equally
in generating the forecast, exponential smoothing
weights the most recent observations heaviest, for
good reason.
• The most recent observations contain the most
information about what is likely to happen in the
future, and they should logically be given more
weight.
Continued
• The key decision affecting the use of exponential
smoothing is the choice of the smoothing constant,
referred to as α in the algorithm for calculating
exponential smoothing, which is constrained to be
between 0 and 1.
• High values of α give great weight to recent
observations and little weight to distant sales; low
values of α, on the other hand, give more weight to
older observations. If sales change slowly, low values
of α work fine.
Continued
• When sales experience rapid changes and fluctuations,
however, high values of α should be used so that the
forecast series responds to these changes quickly.
• The value of α is normally determined empirically;
various values of α are tried, and the one that produces
the smallest forecast error when applied to the
historical series is adopted.
Continued
• Ft = Ft-1 + ά (At-1 – Ft-1)
• where
• F t = Forecast for period t
• F t - 1 = Forecast for the previous period (i.e., period t - 1)
• ά = Smoothing constant (percentage)
• A t - 1 =Actual demand or sales for the previous period
Continued

• The smoothing constant ά represents a percentage of the

forecast error. Each new forecast is equal to the previous
forecast plus a percentage of the previous error.
• For example, suppose the previous forecast was 42
units, actual demand was 40 units, and ά= .10. The new
forecast would be computed as follows:
• Ft = 42 + .10(40 - 42) = 41.8
• Then, if the actual demand turns out to be 43, the next
forecast would be
• Ft = 41.8 + .10(43 - 41.8) = 41.92
 Subjective Methods of Forecasting or
Qualitative Methods
• Subjective forecasting methods do not rely primarily
on sophisticated quantitative (empirical) analytical
approaches in developing the forecast.
Jury of Executive Opinion
• The jury of executive opinion (or jury of expert
opinion) method is a formal or informal internal poll
of key executives within the selling company in order
to gain their assessment of sales possibilities.
• The separate assessments are combined into a sales
forecast for the company.
• Sometimes this is done by simply averaging the
individual judgments; but other times disparate views
are resolved through group discussion toward
consensus.
Delphi Technique
• In gaining expert opinion, one method for controlling
group dynamics to produce a more accurate forecast is
the Delphi technique. Delphi uses an iterative
approach with repeated measurement and controlled
anonymous feedback, instead of direct confrontation
and debate among the experts preparing the forecast.
• Each individual involved prepares a forzcecast using
whatever facts, figures, and general knowledge of the
environment he or she has available. Then the
forecasts are collected, and an anonymous summary is
prepared by the person supervising the process.
Continued
• The summary is distributed to each person who
participated in the initial phase. Typically, the summary
lists each forecast figure, the average (median), and some
summary measure of the spread of the estimates.
• Often, those whose initial estimates fell outside the
midrange of responses are asked to express their reasons
for these extreme positions. These explanations are then
incorporated into the summary. The participants study the
summary and submit a revised forecast.
• The process is then repeated. Typically, several rounds of
these iterations take place.
Continued
• User Expectations
• The user expectations method of forecasting sales is
also known as the buyers’ intentions method because it
relies on answers from customers regarding their
expected consumption or purchases of the product.
• The user expectations method of forecasting sales may
provide estimates closer to market or sales potential
than to sales forecasts.
Continued
• In reality, user groups would have difficulty
anticipating the industry’s or a particular firm’s
marketing efforts.
• Rather, the user estimates reflect their anticipated
needs. From the sellers’ standpoint, they provide a
measure of the opportunities available among a
particular segment of users.
Sales Force Composite
• The sales force composite method of forecasting sales
is so named because the initial input is the opinion of
each member of the field sales staff.
• Each person states how much he or she expects to sell
during the forecast period. Subsequently, these
estimates are typically adjusted at various levels of
sales management.
• They are likely to be checked, discussed, and possibly
changed by the branch manager and on up the sales
organization chart until the figures are finally accepted
at corporate headquarters.
Continued
• When forecasting via sales force composite,
organizations typically use historical information about
the accuracy of the salespeople’s estimates to make
adjustments to the raw forecast data provided by the
field sales organization.
• For various reasons, salespeople may be motivated to
either underestimate or overestimate what they expect
to sell during a period.
Forecasting in the new world of work
Decomposition forecasting
• The decomposition method of sales forecasting is
typically applied to monthly or quarterly data where a
seasonal pattern is evident and the manager wishes to
forecast sales not only for the year but also for each
period in the year.
• Decomposition forecasting is a technique that separates
or decomposes historical data into different components
and uses them to create a forecast that is more accurate
than a simple trend line.
• It is important to determine what portion of sales changes
represents an overall, fundamental change in demand and
what portion is due to seasonality in demand.
Continued
• The decomposition method attempts to isolate four separate
portions of a time series: the trend, cyclical, seasonal, and
random factors.
• The trend reflects the long-run changes experienced in the
series when the cyclical, seasonal, and irregular components
are removed. It is typically assumed to be a straight line.
Continued

• The cyclical factor is not always present because it reflects

the waves in a series when the seasonal and irregular
components are removed. These ups and downs typically
occur over a long period, perhaps two to five years. Some
products experience little cyclical fluctuation (canned peas),
whereas others experience a great deal (housing starts).
Continued

• Seasonality reflects the annual fluctuation in the series

due to the natural seasons. The seasonal factor
normally repeats itself each year, although the exact
pattern of sales may be different from year to year.
Continued

• The random factor is what is left after the influence of the

trend, cyclical, and seasonal factors is removed. Irregular
variations are due to unusual circumstances such as severe
weather conditions, strikes, or a major change in a product or
service. They do not reflect typical behavior, and their
inclusion in the series can distort the overall picture.
Statistical Demand Analysis
• Time-series methods attempt to determine the relationship
between sales and time as the basis of the forecast for
the future.
• Statistical demand analysis attempts to determine the
relationship between sales and the important factors
affecting sales to forecast the future. Typically,
regression analysis is used to estimate the relationship.
Continued
• The emphasis is not to isolate all factors that affect
sales but simply to identify those that have the most
dramatic impact on sales and then to estimate the
magnitude of the impact.
• The predictor variables in statistical demand analysis
often are historical indexes such as leading economic
indicators and other similar measures.
3.4. What is Quota?
• A quota refers to a fixed limit or allowance, typically
used to regulate or control the amount of something,
such as production, consumption, usage, or trade.
• Quotas are one of the most valuable devices sales
managers have for planning the field selling effort, and
they are indispensable for evaluating the effectiveness
of that effort.
• They help managers plan the amount of sales and
profit that will be available at the end of the planning
period and anticipate the activities of the sales team.
Continued
• Quotas are also often used to motivate salespeople and as
such must be reasonable.
• Volume quotas are typically set to a level that is less than
the sales potential in the territory and equal to or slightly
above the sales forecast for the territory, although they also
may be set less than the sales forecast if conditions
warrant.
• Sales quotas apply to specific periods and may be
expressed in dollars or physical units. Thus, management
can specify quarterly, annual, and longer-term quotas for
each of the company’s field representatives in both dollars
and physical units.
3.5. Purposes of Quotas
• Quotas facilitate the planning and control of the field
selling effort in a number of ways.
• Two important contributions of sales quotas are in (1)
providing incentives for sales representatives and (2)
evaluating salespeople’s performance.
• Quotas serve as incentives for sales in several ways. In
essence, they are an objective to be secured and a
challenge to be met.
• Quotas also influence salespeople’s incentive through
sales contests.
Continued
• Quotas also provide a quantitative (objective) standard
against which the performance of individual sales
representatives or other marketing units can be
evaluated.
• They allow management to recognize salespeople who
are performing particularly well and those who may be
experiencing difficulty in performance.
3.6. Characteristics of a Good Quota
• For a quota to be effective, it must be (1) attainable, (2) easy
to understand, (3) complete, and (4) timely.
• Some argue that quotas should be set high so they can be
achieved only with extraordinary effort. Although most
salespeople may not reach their quotas, the argument is that
they are spurred to greater effort than they would have
expended in the absence of such a “carrot.”
• They should represent attainable goals that can be achieved
with normal or reasonable, not Herculean, efforts. That seems
to motivate most salespeople best.
Continued
• Quotas should be not only realistic but also easy to
understand. Complex quota plans may cause suspicion
and mistrust among sales representatives and thereby
discourage rather than motivate them.
• It helps when salespeople can be shown exactly how
their quotas were derived. They are much more likely
to accept quotas that are related to market potential
when they can see the assumptions used in translating
the potential estimate into sales goals.
Continued
• Another desirable feature of a quota plan is that it is
complete. It should cover the many criteria on which
sales reps are to be judged.
• Thus, if all sales representatives are supposed to
engage in new-account development, it is important to
specify how much. Otherwise that activity will likely
be neglected while the salesperson pursues volume and
profit goals.
• Similarly, volume and profit goals should be adjusted
to allow for the time the representative has to spend
identifying and soliciting new accounts.
Continued
• Finally, the quota system should allow for timely
feedback of results to salespeople.
• Quotas for a sales period should be calculated and
announced right away.
• Delays in providing this information not only dilute
the advantages of using quotas but also create
ambiguity, as the salesperson gets well into another
performance period without knowing how he or she
fared in the prior period.
 3.7. Types of and Methods for Setting Sales Quotas
• In setting quotas, the sales manager must first decide on the
types of quotas the firm will use. Then, specific quota
levels must be established.
• Types of Quotas
• There are three basic types of quotas: (1) those
emphasizing sales or some aspect of sales volume, (2)
those that focus on the activities in which sales
representatives are supposed to engage, and (3) those that
examine financial criteria such as gross margin or
contribution to overhead. Sales volume quotas are the
most popular.
Continued
• The popularity of sales volume quotas, those that
emphasize dollar sales or some other aspect of sales
volume, is understandable.
• They can be related directly to market potential and
thereby be made more credible, are easily understood
by the salespeople who must achieve them, and are
consistent with what most salespeople envision their
jobs to be—that is, to sell. Sales volume quotas may be
expressed in dollars, physical units, or points.
Continued
• The concept of point quotas deserves explanation. A
certain number of points are given for each dollar or
unit sale of particular products.
• For example, each $100 of sales of product X might be
worth three points; of product Y, two points; and of
product Z, one point.
Continued
• Point quotas can also be used to promote selective
emphases. New products might receive more points
than old ones to encourage sales representatives to
push them.
• A given dollar of sales to new accounts might be worth
more points than the same level of sales to more
established accounts. Point quota systems allow sales
managers to design quota systems that promote certain
desired goals, and at the same time point quotas can be
easily understood by salespeople.
Activity Quotas
• Activity quotas attempt to recognize the investment nature of
a salesperson’s efforts.
• For example, the letter to a prospect, the product
demonstration, and the arrangement of a display may not
produce an immediate sale.
• On the other hand, they may influence a future sale. If the
quota system emphasizes only sales volume, salespeople may
be inclined to neglect these activities. Today, many activities
are necessary to support long-term client relationships.
• It is appropriate that these activities be considered for quota
development.
Financial Quotas
• Financial quotas help focus salespeople on the cost and
profit implications of what they sell.
• All else being equal, it is easy to understand that
salespeople might emphasize products in their line that
are relatively easy to sell or concentrate on customers
with whom they feel most comfortable interacting.
• Unfortunately, these products may be costly to produce
and have a lower-than-average return, and these
customers may not purchase much and may be less
profitable than other potential accounts.
Continued
• Financial quotas attempt to direct salespeople’s efforts
to more profitable products and customers.
• Common bases for developing financial quotas are
gross margin, net profit, and selling expenses, although
most any financial measure could be used.
• Administering financial quotas can present difficulties.
Their calculation is not straightforward.
Continued
• And the profit a salesperson produces is affected by
many factors beyond his or her control—competitive
reaction, economic conditions, and the firm’s
willingness to negotiate on price, for example.
• Many would argue that in most cases it is
unreasonable to hold an individual salesperson
responsible for such external influences.
Quota Level
• Next, the sales manager must decide the level for each
type of quota.
• In establishing these levels, the sales manager must
balance a number of factors, including the potential
available in the territory, the impact of the quota level
on the salesperson’s motivation, the long-term
objectives of the company, and the impact on short-
term profitability.
• When discussing quota levels, it is useful to separate
sales volume, activity, and financial quotas.
Breakdown Method
• The breakdown method is conceptually one of the
simplest.
• An average salesperson is treated as a salesperson unit,
and each salesperson unit is assumed to possess the
same productivity potential.
• To determine the size of the sales force needed, divide
total forecast sales for the company by the sales likely
to be produced by each individual.
Workload Method
• The basic premise underlying the workload method of
determining sales force size (or, as it is sometimes called, the
buildup method) is that all sales personnel should shoulder an
equal amount of work.
• Management estimates the work required to serve the entire
market. The total work calculation is treated as a function of
the number of accounts, how often each should be called on,
and for how long.
• This estimate is then divided by the amount of work an
individual salesperson should be able to handle, and the
result is the total number of salespeople required.
Incremental Method
• The basic premise underlying the incremental method of
determining sales force size is that sales representatives
should be added as long as the incremental profit produced
by their addition exceeds the incremental costs.
• The method recognizes that decreasing returns will likely be
associated with the addition of salespeople.
• The incremental approach to determining sales force size is
conceptually sound.
• Also, it is consistent with the empirical evidence that
decreasing returns can be expected with additional
salespeople.
End of Chapter
Three