Operations
Management
Chapter 4 -
Forecasting
PowerPoint presentation to accompany
Heizer/Render
Principles of Operations Management, 6e
Operations Management, 8e
© 2006
© 2006 Prentice
Prentice Hall, Inc. Hall, Inc. 4–1
Learning Objectives
When you complete this chapter, you
should be able to :
Identify or Define:
Forecasting
Types of forecasts
Time horizons
Approaches to forecasts
© 2006 Prentice Hall, Inc. 4–2
What is Forecasting?
Process of
predicting a future
event
Underlying basis of
??
all business
decisions
Production
Inventory
Personnel
Facilities
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Forecasting Time Horizons
Short-range forecast
Up to 1 year, generally less than 3 months
Purchasing, job scheduling, workforce
levels, job assignments, production levels
Medium-range forecast
3 months to 3 years
Sales and production planning, budgeting
Long-range forecast
3+ years
New product planning, facility location,
research and development
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Distinguishing Differences
Medium/long range forecasts deal with
more comprehensive issues and support
management decisions regarding
planning and products, plants and
processes
Short-term forecasting usually employs
different methodologies than longer-term
forecasting
Short-term forecasts tend to be more
accurate than longer-term forecasts
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Influence of Product Life
Cycle
Introduction – Growth – Maturity – Decline
Introduction and growth require longer
forecasts than maturity and decline
As product passes through life cycle,
forecasts are useful in projecting
Staffing levels
Inventory levels
Factory capacity
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Product Life Cycle
Introduction Growth Maturity Decline
Best period to Practical to change Poor time to Cost control
Company Strategy/Issues
increase market price or quality change image, critical
share image price, or quality
R&D engineering is Strengthen niche Competitive costs
critical become critical
Defend market
position
CD-ROM Fax machines
Internet Drive-through
restaurants
Color printers
Sales
3 1/2”
Floppy
Flat-screen disks
monitors DVD
Figure 2.5
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Product Life Cycle
Introduction Growth Maturity Decline
Product design Forecasting Standardization Little product
and critical differentiation
Less rapid
development
Product and product changes Cost
OM Strategy/Issues
critical
process – more minor minimization
Frequent reliability changes
Overcapacity
product and
Competitive Optimum in the
process design
product capacity industry
changes
improvements Increasing Prune line to
Short production and options stability of eliminate
runs
Increase capacity process items not
High production returning
Shift toward Long production
costs good margin
product focus runs
Limited models Reduce
Enhance Product
capacity
Attention to distribution improvement and
quality cost cutting
Figure 2.5
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Types of Forecasts
Economic forecasts
Address business cycle – inflation rate,
money supply, housing starts, etc.
Technological forecasts
Predict rate of technological progress
Impacts development of new products
Demand forecasts
Predict sales of existing product
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Strategic Importance of
Forecasting
Human Resources – Hiring, training,
laying off workers
Capacity – Capacity shortages can
result in undependable delivery, loss
of customers, loss of market share
Supply-Chain Management – Good
supplier relations and price advance
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Seven Steps in Forecasting
Determine the use of the forecast
Select the items to be forecasted
Determine the time horizon of the
forecast
Select the forecasting model(s)
Gather the data
Make the forecast
Validate and implement results
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The Realities!
Forecasts are seldom perfect
Most techniques assume an
underlying stability in the system
Product family and aggregated
forecasts are more accurate than
individual product forecasts
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Forecasting Approaches
Qualitative Methods
Used when situation is vague
and little data exist
New products
New technology
Involves intuition, experience
e.g., forecasting sales on Internet
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Forecasting Approaches
Quantitative Methods
Used when situation is ‘stable’ and
historical data exist
Existing products
Current technology
Involves mathematical techniques
e.g., forecasting sales of color
televisions
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Overview of Qualitative
Methods
Jury of executive opinion
Pool opinions of high-level
executives, sometimes augment by
statistical models
Delphi method
Panel of experts, queried iteratively
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Overview of Qualitative
Methods
Sales force composite
Estimates from individual
salespersons are reviewed for
reasonableness, then aggregated
Consumer Market Survey
Ask the customer
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Jury of Executive Opinion
Involves small group of high-level
managers
Group estimates demand by working
together
Combines managerial experience with
statistical models
Relatively quick
‘Group-think’
disadvantage
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Sales Force Composite
Each salesperson projects his or
her sales
Combined at district and national
levels
Sales reps know customers’ wants
Tends to be overly optimistic
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Delphi Method
Iterative group Decision Makers
(Evaluate
process, responses and
continues until make decisions)
consensus is
reached Staff
3 types of (Administering
survey)
participants
Decision makers
Staff Respondents
(People who can
Respondents make valuable
judgments)
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Consumer Market Survey
Ask customers about purchasing
plans
What consumers say, and what
they actually do are often different
Sometimes difficult to answer
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Overview of Quantitative
Approaches
1. Naive approach
2. Moving averages
Time-Series
3. Exponential Models
smoothing
4. Trend projection
Associative
5. Linear regression Model
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Time Series Forecasting
Set of evenly spaced numerical
data
Obtained by observing response
variable at regular time periods
Forecast based only on past
values
Assumes that factors influencing
past and present will continue
influence in future
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Time Series Components
Trend Cyclical
Seasonal Random
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Trend Component
Persistent, overall upward or
downward pattern
Changes due to population,
technology, age, culture, etc.
Typically several years
duration
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Seasonal Component
Regular pattern of up and
down fluctuations
Due to weather, customs, etc.
Occurs within a single year
Number of
Period Length Seasons
Week Day 7
Month Week 4-4.5
Month Day 28-31
Year Quarter 4
Year Month 12
Year Week 52
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Cyclical Component
Repeating up and down movements
Affected by business cycle, political,
and economic factors
Multiple years duration
Often causal or
associative
relationships
0 5 10 15 20
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Random Component
Erratic, unsystematic, ‘residual’
fluctuations
Due to random variation or
unforeseen events
Short duration and
nonrepeating
M T W T F
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Naive Approach
Assumes demand in next period is
the same as demand in most
recent period
e.g., If May sales were 48, then June
sales will be 48
Sometimes cost effective and
efficient
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Moving Average Method
MA is a series of arithmetic means
Used if little or no trend
Used often for smoothing
Provides overall impression of data
over time
∑ demand in previous n periods
Moving average = n
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Weighted Moving Average
Used when trend is present
Older data usually less important
Weights based on experience and
intuition
∑ (weight for period n)
Weighted x (demand in period n)
moving average = ∑ weights
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Potential Problems With
Moving Average
Increasing n smooths the forecast
but makes it less sensitive to
changes
Do not forecast trends well
Require extensive historical data
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Exponential Smoothing
Form of weighted moving average
Weights decline exponentially
Most recent data weighted most
Requires smoothing constant ()
Ranges from 0 to 1
Subjectively chosen
Involves little record keeping of past
data
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Exponential Smoothing
st period’s forecast
(last period’s actual demand
– last period’s forecast)
Ft = Ft – 1 + (At – 1 - Ft – 1)
where Ft = new forecast
Ft – 1 = previous forecast
= smoothing (or weighting)
constant (0 1)
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Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant = .20
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Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant = .20
New forecast = 142 + .2(153 – 142)
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Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant = .20
New forecast = 142 + .2(153 – 142)
= 142 + 2.2
= 144.2 ≈ 144 cars
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Exponential Smoothing with
Trend Adjustment
When a trend is present, exponential
smoothing must be modified
Forecast exponentially exponentially
including (FITt) = smoothed (Ft) + (Tt) smoothed
trend forecast trend
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Associative Forecasting
Used when changes in one or more
independent variables can be used to predict
the changes in the dependent variable
Most common technique is linear
regression analysis
We apply this technique just as we did
in the time series example
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Correlation
How strong is the linear
relationship between the
variables?
Correlation does not necessarily
imply causality!
Coefficient of correlation, r,
measures degree of association
Values range from -1 to +1
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Monitoring and Controlling
Forecasts
Tracking Signal
Measures how well the forecast is
predicting actual values
Ratio of running sum of forecast errors
(RSFE) to mean absolute deviation (MAD)
Good tracking signal has low values
If forecasts are continually high or low, the
forecast has a bias error
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Adaptive Forecasting
It’s possible to use the computer to
continually monitor forecast error and
adjust the values of the and
coefficients used in exponential
smoothing to continually minimize
forecast error
This technique is called adaptive
smoothing
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Focus Forecasting
Developed at American Hardware Supply,
focus forecasting is based on two principles:
1. Sophisticated forecasting models are not
always better than simple models
2. There is no single techniques that should
be used for all products or services
This approach uses historical data to test
multiple forecasting models for individual items
The forecasting model with the lowest error is
then used to forecast the next demand
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Forecasting in the Service
Sector
Presents unusual challenges
Special need for short term records
Needs differ greatly as function of
industry and product
Holidays and other calendar events
Unusual events
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