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    Demand Forecasting

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    Pooja Surana
    The document discusses demand forecasting in a supply chain. It covers: - The key role that forecasting plays in strategic and planning decisions across production, marketing, finance, and personnel. - Characteristics of forecasts, including that they are always wrong and accuracy decreases with longer forecast horizons. - Common forecasting methods like qualitative, time series, causal, and simulation approaches. - Components of a demand observation including systematic, random, level, trend, and seasonality factors. - Details of the static and adaptive time series forecasting methods like moving average, simple exponential smoothing, and Holt's and Winter's models for incorporating trend and seasonality.

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    © All Rights Reserved
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    Demand Forecasting

    Uploaded by

    Pooja Surana
    482 views41 pages
    The document discusses demand forecasting in a supply chain. It covers: - The key role that forecasting plays in strategic and planning decisions across production, marketing, finance, and personnel. - Characteristics of forecasts, including that they are always wrong and accuracy decreases with longer forecast horizons. - Common forecasting methods like qualitative, time series, causal, and simulation approaches. - Components of a demand observation including systematic, random, level, trend, and seasonality factors. - Details of the static and adaptive time series forecasting methods like moving average, simple exponential smoothing, and Holt's and Winter's models for incorporating trend and seasonality.

    Original Description:

    Brief on Demand Forecasting

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    © © All Rights Reserved

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    The document discusses demand forecasting in a supply chain. It covers: - The key role that forecasting plays in strategic and planning decisions across production, marketing, finance, and personnel. - Characteristics of forecasts, including that they are always wrong and accuracy decreases with longer forecast horizons. - Common forecasting methods like qualitative, time series, causal, and simulation approaches. - Components of a demand observation including systematic, random, level, trend, and seasonality factors. - Details of the static and adaptive time series forecasting methods like moving average, simple exponential smoothing, and Holt's and Winter's models for incorporating trend and seasonality.

    Copyright:

    © All Rights Reserved
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    482 views41 pages

    Demand Forecasting

    Uploaded by

    Pooja Surana
    The document discusses demand forecasting in a supply chain. It covers: - The key role that forecasting plays in strategic and planning decisions across production, marketing, finance, and personnel. - Characteristics of forecasts, including that they are always wrong and accuracy decreases with longer forecast horizons. - Common forecasting methods like qualitative, time series, causal, and simulation approaches. - Components of a demand observation including systematic, random, level, trend, and seasonality factors. - Details of the static and adaptive time series forecasting methods like moving average, simple exponential smoothing, and Holt's and Winter's models for incorporating trend and seasonality.

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    © All Rights Reserved
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    of 41

    Demand Forecasting

    in a Supply Chain

    7-1

    Role of Forecasting
    in a Supply Chain
    The basis for all strategic and planning decisions in a
    supply chain
    Used for both push and pull processes
    Examples:
    Production: scheduling, inventory, aggregate planning
    Marketing: sales force allocation, promotions, new production
    introduction
    Finance: plant/equipment investment, budgetary planning
    Personnel: workforce planning, hiring, layoffs

    All of these decisions are interrelated

    7-2

    Characteristics of Forecasts
    Forecasts are always wrong. Should include
    expected value and measure of error.
    Long-term forecasts are less accurate than shortterm forecasts (forecast horizon is important)
    Aggregate forecasts are more accurate than
    disaggregate forecasts

    7-3

    Forecasting Methods
    Qualitative: primarily subjective; rely on judgment and
    opinion
    Time Series: use historical demand only
    Static
    Adaptive

    Causal: use the relationship between demand and some


    other factor to develop forecast
    Simulation
    Imitate consumer choices that give rise to demand
    Can combine time series and causal methods

    7-4

    Components of an Observation
    Observed demand (O) =
    Systematic component (S) + Random component (R)
    Level (current deseasonalized demand)
    Trend (growth or decline in demand)
    Seasonality (predictable seasonal fluctuation)
    Systematic component: Expected value of demand
    Random component: The part of the forecast that deviates
    from the systematic component
    Forecast error: difference between forecast and actual demand
    7-5

    Time Series Forecasting


    Quarter
    II, 1998
    III, 1998
    IV, 1998
    I, 1999
    II, 1999
    III, 1999
    IV, 1999
    I, 2000
    II, 2000
    III, 2000
    IV, 2000
    I, 2001

    Demand Dt
    8000
    13000
    23000
    34000
    10000
    18000
    23000
    38000
    12000
    13000
    32000
    41000

    Forecast demand for the


    next four quarters.

    7-6

    Time Series Forecasting


    50,000
    40,000
    30,000
    20,000
    10,000
    0

    7-7

    Forecasting Methods
    Static
    Adaptive

    Moving average
    Simple exponential smoothing
    Holts model (with trend)
    Winters model (with trend and seasonality)

    7-8

    Basic Approach to
    Demand Forecasting
    Understand the objectives of forecasting
    Integrate demand planning and forecasting
    Identify major factors that influence the demand
    forecast
    Understand and identify customer segments
    Determine the appropriate forecasting technique
    Establish performance and error measures for the
    forecast

    7-9

    Time Series
    Forecasting Methods
    Goal is to predict systematic component of demand
    Multiplicative: (level)(trend)(seasonal factor)
    Additive: level + trend + seasonal factor
    Mixed: (level + trend)(seasonal factor)

    Static methods
    Adaptive forecasting

    7-10

    Static Methods
    Assume a mixed model:
    Systematic component = (level + trend)(seasonal factor)
    Ft+l = [L + (t + l)T]St+l
    = forecast in period t for demand in period t + l
    L = estimate of level for period 0
    T = estimate of trend
    St = estimate of seasonal factor for period t
    Dt = actual demand in period t
    Ft = forecast of demand in period t

    7-11

    Static Methods
    Estimating level and trend
    Estimating seasonal factors

    7-12

    Estimating Level and Trend


    Before estimating level and trend, demand data
    must be deseasonalized
    Deseasonalized demand = demand that would
    have been observed in the absence of seasonal
    fluctuations
    Periodicity (p)
    the number of periods after which the seasonal cycle
    repeats itself

    7-13

    Time Series Forecasting

    Forecast demand for the


    next four quarters.

    7-14

    Time Series Forecasting

    50,000
    40,000
    30,000
    20,000
    10,000
    0

    7-15

    Estimating Level and Trend


    Before estimating level and trend, demand data
    must be deseasonalized
    Deseasonalized demand = demand that would
    have been observed in the absence of seasonal
    fluctuations
    Periodicity (p)
    the number of periods after which the seasonal cycle
    repeats itself
    for demand at Tahoe Salt p = 4

    7-16

    Deseasonalizing Demand

    [Dt-(p/2) + Dt+(p/2) + 2Di] / 2p for p even


    Dt =

    (sum is from i = t+1-(p/2) to t+1+(p/2))

    Di / p for p odd
    (sum is from i = t-(p/2) to t+(p/2)), p/2 truncated to lower integer

    7-17

    Deseasonalizing Demand
    For the example, p = 4 is even
    For t = 3:
    D3 = {D1 + D5 + Sum(i=2 to 4) [2Di]}/8
    = {8000+10000+[(2)(13000)+(2)(23000)+(2)(34000)]}/8
    = 19750
    D4 = {D2 + D6 + Sum(i=3 to 5) [2Di]}/8
    = {13000+18000+[(2)(23000)+(2)(34000)+(2)(10000)]/8
    = 20625

    7-18

    Deseasonalizing Demand
    Then include trend
    Dt = L + tT
    where Dt = deseasonalized demand in period t
    L = level (deseasonalized demand at period 0)
    T = trend (rate of growth of deseasonalized demand)
    Trend is determined by linear regression using deseasonalized
    demand as the dependent variable and period as the
    independent variable (can be done in Excel)
    In the example, L = 18,439 and T = 524

    7-19

    Time Series of Demand

    50000

    Demand

    40000
    30000

    Dt
    Dt-bar

    20000
    10000
    0
    1 2 3 4 5 6 7 8 9 10 11 12
    Period

    7-20

    Estimating Seasonal Factors


    Use the previous equation to calculate deseasonalized
    demand for each period
    St = Dt / Dt = seasonal factor for period t
    In the example,
    D2 = 18439 + (524)(2) = 19487 D2 = 13000
    S2 = 13000/19487 = 0.67
    The seasonal factors for the other periods are
    calculated in the same manner

    7-21

    Estimating Seasonal Factors


    t
    1
    2
    3
    4
    5
    6
    7
    8
    9
    10
    11
    12

    Dt Dt-bar S-bar
    8000 18963 0.42 = 8000/18963
    13000 19487 0.67 = 13000/19487
    23000 20011 1.15 = 23000/20011
    34000 20535 1.66 = 34000/20535
    10000 21059 0.47 = 10000/21059
    18000 21583 0.83 = 18000/21583
    23000 22107 1.04 = 23000/22107
    38000 22631 1.68 = 38000/22631
    12000 23155 0.52 = 12000/23155
    13000 23679 0.55 = 13000/23679
    32000 24203 1.32 = 32000/24203
    41000 24727 1.66 = 41000/24727

    7-22

    Estimating Seasonal Factors


    The overall seasonal factor for a season is then obtained by
    averaging all of the factors for a season
    If there are r seasonal cycles, for all periods of the form pt+i, 1<i<p,
    the seasonal factor for season i is
    Si = [Sum(j=0 to r-1) Sjp+i]/r
    In the example, there are 3 seasonal cycles in the data and p=4, so
    S1 = (0.42+0.47+0.52)/3 = 0.47
    S2 = (0.67+0.83+0.55)/3 = 0.68
    S3 = (1.15+1.04+1.32)/3 = 1.17
    S4 = (1.66+1.68+1.66)/3 = 1.67

    7-23

    Estimating the Forecast


    Using the original equation, we can forecast the next
    four periods of demand:
    F13 = (L+13T)S1 = [18439+(13)(524)](0.47) = 11868
    F14 = (L+14T)S2 = [18439+(14)(524)](0.68) = 17527
    F15 = (L+15T)S3 = [18439+(15)(524)](1.17) = 30770
    F16 = (L+16T)S4 = [18439+(16)(524)](1.67) = 44794

    7-24

    Adaptive Forecasting
    The estimates of level, trend, and seasonality are
    adjusted after each demand observation
    General steps in adaptive forecasting
    Moving average
    Simple exponential smoothing
    Trend-corrected exponential smoothing (Holts
    model)
    Trend- and seasonality-corrected exponential
    smoothing (Winters model)

    7-25

    Basic Formula for


    Adaptive Forecasting
    Ft+1 = (Lt + lT)St+1 = forecast for period t+l in period t
    Lt = Estimate of level at the end of period t
    Tt = Estimate of trend at the end of period t
    St = Estimate of seasonal factor for period t
    Ft = Forecast of demand for period t (made period t-1 or earlier)
    Dt = Actual demand observed in period t
    Et = Forecast error in period t
    At = Absolute deviation for period t = |Et|
    MAD = Mean Absolute Deviation = average value of At

    7-26

    General Steps in
    Adaptive Forecasting
    Initialize: Compute initial estimates of level (L 0), trend (T0), and
    seasonal factors (S1,,Sp). This is done as in static forecasting.
    Forecast: Forecast demand for period t+1 using the general
    equation
    Estimate error: Compute error Et+1 = Ft+1- Dt+1
    Modify estimates: Modify the estimates of level (L t+1), trend
    (Tt+1), and seasonal factor (St+p+1), given the error Et+1 in the
    forecast
    Repeat steps 2, 3, and 4 for each subsequent period

    7-27

    Moving Average
    Used when demand has no observable trend or seasonality
    Systematic component of demand = level
    The level in period t is the average demand over the last N periods (the Nperiod moving average)
    Current forecast for all future periods is the same and is based on the
    current estimate of the level
    Lt = (Dt + Dt-1 + + Dt-N+1) / N
    Ft+1 = Lt and Ft+n = Lt
    After observing the demand for period t+1, revise the estimates as follows:
    Lt+1 = (Dt+1 + Dt + + Dt-N+2) / N
    Ft+2 = Lt+1

    7-28

    Moving Average Example


    From Tahoe Salt example t the end of period 4, what is the forecast
    demand for periods 5 through 8 using a 4-period moving average?
    L4 = (D4+D3+D2+D1)/4 = (34000+23000+13000+8000)/4 = 19500
    F5 = 19500 = F6 = F7 = F8
    Observe demand in period 5 to be D5 = 10000
    Forecast error in period 5, E5 = F5 - D5 = 19500 - 10000 = 9500
    Revise estimate of level in period 5:
    L5 = (D5+D4+D3+D2)/4 = (10000+34000+23000+13000)/4 = 20000
    F6 = L5 = 20000

    7-29

    Simple Exponential Smoothing


    Used when demand has no observable trend or seasonality
    Systematic component of demand = level
    Initial estimate of level, L 0, assumed to be the average of all historical data
    L0 = [Sum(i=1 to n)Di]/n
    Current forecast for all future periods is equal to the current estimate of
    the level and is given as follows:
    Ft+1 = Lt and Ft+n = Lt
    After observing demand Dt+1, revise the estimate of the level:
    Lt+1 = Dt+1 + (1-)Lt
    Lt+1 = Sum(n=0 to t+1)[(1-)nDt+1-n ]

    7-30

    Simple Exponential Smoothing


    Example
    From Tahoe Salt data, forecast demand for period 1 using exponential smoothing
    L0 = average of all 12 periods of data
    = Sum(i=1 to 12)[Di]/12 = 22083
    F1 = L0 = 22083
    Observed demand for period 1 = D1 = 8000
    Forecast error for period 1, E1, is as follows:
    E1 = F1 - D1 = 22083 - 8000 = 14083
    Assuming = 0.1, revised estimate of level for period 1:
    L1 = D1 + (1-)L0 = (0.1)(8000) + (0.9)(22083) = 20675
    F2 = L1 = 20675
    Note that the estimate of level for period 1 is lower than in period 0

    7-31

    Trend-Corrected Exponential
    Smoothing (Holts Model)
    Appropriate when the demand is assumed to have a level and trend in
    the systematic component of demand but no seasonality
    Obtain initial estimate of level and trend by running a linear regression
    of the following form:
    Dt = at + b
    T0 = a
    L0 = b
    In period t, the forecast for future periods is expressed as follows:
    Ft+1 = Lt + Tt
    Ft+n = Lt + nTt

    7-32

    Trend-Corrected Exponential
    Smoothing (Holts Model)
    After observing demand for period t, revise the estimates for level and trend
    as follows:
    Lt+1 = Dt+1 + (1-)(Lt + Tt)
    Tt+1 = (Lt+1 - Lt) + (1-)Tt
    = smoothing constant for level
    = smoothing constant for trend
    Example: Tahoe Salt demand data. Forecast demand for period 1 using Holts
    model (trend corrected exponential smoothing)
    Using linear regression,
    L0 = 12015 (linear intercept)
    T0 = 1549 (linear slope)

    7-33

    Holts Model Example (continued)


    Forecast for period 1:
    F1 = L0 + T0 = 12015 + 1549 = 13564
    Observed demand for period 1 = D1 = 8000
    E1 = F1 - D1 = 13564 - 8000 = 5564
    Assume = 0.1, = 0.2
    L1 = D1 + (1-)(L0+T0) = (0.1)(8000) + (0.9)(13564) = 13008
    T1 = (L1 - L0) + (1-)T0 = (0.2)(13008 - 12015) + (0.8)(1549)
    = 1438
    F2 = L1 + T1 = 13008 + 1438 = 14446
    F5 = L1 + 4T1 = 13008 + (4)(1438) = 18760

    7-34

    Trend- and Seasonality-Corrected


    Exponential Smoothing
    Appropriate when the systematic component of demand
    is assumed to have a level, trend, and seasonal factor
    Systematic component = (level+trend)(seasonal factor)
    Assume periodicity p
    Obtain initial estimates of level (L0), trend (T0), seasonal
    factors (S1,,Sp) using procedure for static forecasting
    In period t, the forecast for future periods is given by:
    Ft+1 = (Lt+Tt)(St+1) and Ft+n = (Lt + nTt)St+n

    7-35

    Trend- and Seasonality-Corrected


    Exponential Smoothing (continued)
    After observing demand for period t+1, revise estimates for level, trend, and
    seasonal factors as follows:
    Lt+1 = (Dt+1/St+1) + (1-)(Lt+Tt)
    Tt+1 = (Lt+1 - Lt) + (1-)Tt
    St+p+1 = (Dt+1/Lt+1) + (1-)St+1
    = smoothing constant for level
    = smoothing constant for trend
    = smoothing constant for seasonal factor
    Example: Tahoe Salt data. Forecast demand for period 1 using Winters model.
    Initial estimates of level, trend, and seasonal factors are obtained as in the static
    forecasting case

    7-36

    Trend- and Seasonality-Corrected


    Exponential Smoothing Example (continued)
    L0 = 18439 T0 = 524 S1=0.47, S2=0.68, S3=1.17, S4=1.67
    F1 = (L0 + T0)S1 = (18439+524)(0.47) = 8913
    The observed demand for period 1 = D1 = 8000
    Forecast error for period 1 = E1 = F1-D1 = 8913 - 8000 = 913
    Assume = 0.1, =0.2, =0.1; revise estimates for level and trend for
    period 1 and for seasonal factor for period 5
    L1 = (D1/S1)+(1-)(L0+T0) = (0.1)(8000/0.47)+(0.9)(18439+524)=18769
    T1 = (L1-L0)+(1-)T0 = (0.2)(18769-18439)+(0.8)(524) = 485
    S5 = (D1/L1)+(1-)S1 = (0.1)(8000/18769)+(0.9)(0.47) = 0.47

    F2 = (L1+T1)S2 = (18769 + 485)(0.68) = 13093

    7-37

    Measures of Forecast Error


    Forecast error = Et = Ft - Dt
    Mean squared error (MSE)
    MSEn = (Sum(t=1 to n)[Et2])/n
    Absolute deviation = At = |Et|
    Mean absolute deviation (MAD)
    MADn = (Sum(t=1 to n)[At])/n
    = 1.25MAD

    7-38

    Measures of Forecast Error


    Mean absolute percentage error (MAPE)
    MAPEn = (Sum(t=1 to n)[|Et/ Dt|100])/n
    Bias
    Shows whether the forecast consistently under- or overestimates
    demand; should fluctuate around 0
    biasn = Sum(t=1 to n)[Et]
    Tracking signal
    Should be within the range of +6
    Otherwise, possibly use a new forecasting method
    TSt = bias / MADt

    7-39

    Forecasting Demand at Tahoe Salt


    Moving average
    Simple exponential smoothing
    Trend-corrected exponential smoothing
    Trend- and seasonality-corrected exponential
    smoothing

    7-40

    Forecasting in Practice
    Collaborate in building forecasts
    The value of data depends on where you are in the
    supply chain
    Be sure to distinguish between demand and sales

    7-41

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