Om3 C11

FORCASTING AND
DEMAND PLANNING
CHAPTER 11
DAVID A. COLLIER AND JAMES R. EVANS
OM3 Chapter 11 Forecasting and Demand Planning

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
CHAPTER 11
FORECASTING AND DEMAND PLANNING
LO1 Describe the importance of forecasting to

the
value chain.
LO2 Explain basic concepts of forecasting and

time
series.
LO3 Explain how to apply single moving average

and
exponential smoothing models.
LO4 Describe how to apply regression as a

forecasting
approach.
LO5 Explain the role of judgment in forecasting.

LO6 Describe how statistical and judgmental
forecasting techniques are applied in
practice.

CHAPTER 11
he demand for rental cars in Florida and other
warm climates peaks during college spring break

season. Call centers and rental offices are flooded
with customers wanting to rent a vehicle. National
Car Rental took a unique approach by developing a
customer-identification forecasting model, by which
it identifies all customers who are young and rent
cars only once or twice a year. These demand
analysis models allow National to call this target
market segment in February, when call volumes are
lower, to sign them up again. The proactive
strategy is designed to both boost repeat rentals 3

CHAPTER 11
What do you think?

Think of a pizza
delivery franchise
located near a
college campus.
What factors that
influence demand do
you think should be
included in trying to
forecast demand for
pizzas?
CHAPTER 11
Forecasting and Demand Planning

Forecasting is the process of projecting the
values of one or more variables into the
future.
Types
of forecasts:
Long-range
forecasts in total sales dollars
(top management level)
Aggregate forecasts of sales volume
(middle management level)
Forecasts of individual units (operational
level)
CHAPTER 11
Exhibit 11.1 The Need for Forecasts in a Value Chain

CHAPTER 11
Basic Concepts in Forecasting

The planning horizon is the length of
time on which a forecast is based.
This spans from short-range forecasts
with a planning horizon of under 3
months to long-range forecasts of 1 to
10time
years.
The
bucket is the unit of measure for
the time period used in a forecast.

CHAPTER 11

A time series is a set of observations
measured at successive points in time or
over successive periods of time.
A time series pattern may have one or
more of the following five characteristics:
Trend
Seasonal patterns
Cyclical patterns
Random variation (or noise)
Irregular (one time) variation

CHAPTER 11

A trend is the underlying pattern of growth or
decline in a time series.
Seasonal patterns are characterized by
repeatable periods of ups and downs over short
periods of time.
Cyclical patterns are regular patterns in a data
series that take place over longer periods of time.
Random variation (sometimes called noise) is
the unexplained deviation of a time series from a
predictable pattern, such as a trend, seasonal, or
cyclical pattern.
Irregular variation is a one-time variation that
is explainable.
CHAPTER 11
Exhibit 11.2 Example Linear and Nonlinear Trend Patterns

10
CHAPTER 11
Exhibit 11.3 Seasonal Pattern of Home Natural Gas Usage

11
CHAPTER 11
Exhibit Extra Trend and Business Cycle Characteristics

(each data point is 1 year apart)

12
CHAPTER 11
Exhibit 11.4
Call Center Volume
Example of a
time series with
trend and
seasonal
components:

13
CHAPTER 11
Exhibit 11.5 Chart of Call Volume

14
CHAPTER 11

Forecast error is the difference between the
observed value of the time series and the
forecast, or At Ft .
Mean Square Error (MSE)
MSE
=
(At Ft )2
T
[11.1
]
Mean Absolute Deviation Error (MAD)
MAD
=
At Ft
T
[11.2
]
Mean Absolute Percentage Error (MAPE)
MAPE = (At Ft )/At X 100 [11.3]

T
15
CHAPTER 11
Exhibit 11.6 Forecast Error of Example Time Series Data

16
CHAPTER 11

MSE is influenced much more by large
forecasts errors than by small errors (because
the errors are squared).
The measurement scale factor in MAPE is
eliminated by dividing the absolute error by
the time-series data value, making it easier to
interpret.
The selection of the best measure of forecast
accuracy is not a simple matter; indeed,
forecasting experts often disagree on which
measure should be used.
17
CHAPTER 11
Statistical Forecasting Models

Statistical forecasting is based on the
assumption that the future will be an
extrapolation of the past.
Judgmental forecasting relies upon
opinions and expertise of people in
developing forecasts.

18
CHAPTER 11
Single Moving Average

A moving average (MA) forecast is an
average of the most recent k observations
in a time series.
[11.4]
Ft+1 = (most recent k observations)/k
= (At + At1 + At2 + ... + Atk+1)/k
MA methods work best for short planning
horizons when there is no major trend,
seasonal, or business cycle pattern.
As the value of k increases, the forecast
reacts slowly to recent changes in the time
series data.
19
CHAPTER 11
Solved Problem
Develop three-period and four-period moving-average
forecasts and single exponential smoothing forecasts with
a = 0.5. Compute the MAD, MAPE, and MSE for each.
Which method provides a better forecast?
Period
Demand
Period
Demand
86
91
93
93
88
96
89
10
97
92
11
93
94
12
95

20
CHAPTER 11
Solved Problem
98
96
94
92
90
Moving
Average
Forecasts
88
86
84
82
80
1
10
11
12
Period
Based on these error metrics (MAD, MSE, MAPE), the

3-month moving average is the best method among
the three.
21
CHAPTER 11
Exhibit 11.7 Summary of 3-Month Moving-Average Forecasts

22
CHAPTER 11
Exhibit 11.8 Milk-Sales Forecast Error Analysis

23
CHAPTER 11
Single Exponential Smoothing

Single Exponential Smoothing (SES) is
a forecasting technique that uses a
weighted average of past time-series
values to forecast the value of the time
series in the next period.
Ft+1 = At + (1 )Ft
= Ft + (At Ft)
[11.5]

24
CHAPTER 11
Exhibit 11.9 Summary of Single Exponential Smoothing Milk-Sales

Forecasts with = 0.2

25
CHAPTER 11
Exhibit 11.10 Graph of Single Exponential Smoothing Milk-Sales Forecasts

with = 0.2

26
CHAPTER 11
Regression as a Forecasting Approach

Regression analysis is a method for building
a statistical model that defines a relationship
between a single dependent variable and one
or more independent variables, all of which
are numerical.
Yt = a + bt
(11.7)
Simple linear regression finds the best values of

a and b using the method of least squares.
Excel provides a very simple tool to find the
best-fitting regression model for a time series
by selecting the Add Trendline option from the
Chart menu.
27
CHAPTER 11
Exhibit 11.11 Factory Energy Costs

28
CHAPTER 11
Exhibit 11.12
Format Trendline
Dialog Box

29
CHAPTER 11
Exhibit 11.13 Least-Squares Regression Model for Energy Cost Forecasting

30
CHAPTER 11
Causal Forecasting with Multiple Regression

A linear regression model with more than
one independent variable is called a
multiple linear regression model.
Multiple regression models can include
other independent variables such as
economic indexes or demographic
factors that may influence the time
series.

31
CHAPTER 11
Exhibit 11.14 Gasoline Sales Data

32
CHAPTER 11
Exhibit 11.15 Chart of Sales versus Time

33
CHAPTER 11
Exhibit 11.16 Multiple Regression Results

34
CHAPTER 11
Judgmental Forecasting
Judgmental forecasting relies upon
opinions and expertise of people in
developing forecasts.
Grass Roots forecasting is simply asking
those who are close to the end consumer,
such as salespeople, about the customers
purchasing plans.
The Delphi method consists of forecasting
by expert opinion by gathering judgments
and opinions of key personnel based on
their experience and knowledge of the
situation.
35
CHAPTER 11
Forecasting in Practice
Managers use a variety of judgmental and
quantitative forecasting techniques.
Statistical methods alone cannot account
for such factors as sales promotions,
competitive strategies, unusual economic
disturbances, new products, large one-time
orders, labor complications, etc.
Statistical forecasts are often adjusted to
account for qualitative factors.
36
CHAPTER 11
Forecasting in Practice
A tracking signal provides a method for
monitoring a forecast by quantifying biasthe
tendency of forecasts to consistently be larger
or smaller than the actual values of the time
series.
Tracking signal = (At Ft)
[11.8]
MAD
Tracking signals between plus and minus 4
indicate an adequate forecasting model.
37
CHAPTER 11

38
CHAPTER 11
BankUSA: Forecasting Help Desk Demand by Day

Case Study
1. What are the service management
characteristics of the CSR job?
2. Define the mission statement and
strategy of the Help Desk contact center.
Why is the Help Desk important? Who
are its customers?
3. How would you handle the customer
affected by the inaccurate stock price in
the banks trust account system? Would
you take a passive or proactive
approach? Justify your answer.
4. Using the data on Call Volume in the
accompanying table, how would you
forecast
short-term
demand?
OM3 Chapter 11
Forecasting and Demand
Planning
39

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FORCASTING AND

DAVID A. COLLIER AND JAMES R. EVANS

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

LO1 Describe the importance of forecasting to

LO2 Explain basic concepts of forecasting and

LO3 Explain how to apply single moving average

exponential smoothing models.

LO4 Describe how to apply regression as a

LO5 Explain the role of judgment in forecasting.

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

he demand for rental cars in Florida and other

warm climates peaks during college spring break

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

What do you think?

FORECASTING AND DEMAND PLANNING

Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Exhibit 11.1 The Need for Forecasts in a Value Chain

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Basic Concepts in Forecasting

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Basic Concepts in Forecasting

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Basic Concepts in Forecasting

FORECASTING AND DEMAND PLANNING

Exhibit 11.2 Example Linear and Nonlinear Trend Patterns

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Exhibit 11.3 Seasonal Pattern of Home Natural Gas Usage

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Exhibit Extra Trend and Business Cycle Characteristics

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Exhibit 11.5 Chart of Call Volume

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Basic Concepts in Forecasting

Mean Absolute Deviation Error (MAD)

Mean Absolute Percentage Error (MAPE)

MAPE = (At Ft )/At X 100 [11.3]

FORECASTING AND DEMAND PLANNING

Exhibit 11.6 Forecast Error of Example Time Series Data

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Basic Concepts in Forecasting

FORECASTING AND DEMAND PLANNING

Statistical Forecasting Models

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Single Moving Average

FORECASTING AND DEMAND PLANNING

OM3 Chapter 11 Forecasting and Demand Planning

FORECASTING AND DEMAND PLANNING

Based on these error metrics (MAD, MSE, MAPE), the