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D Lab: Supply Chains Lectures 4 and 5: Class Outline: - What Is Demand? - Demand Management - Forecasting Demand

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50 views72 pages

D Lab: Supply Chains Lectures 4 and 5: Class Outline: - What Is Demand? - Demand Management - Forecasting Demand

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Nan

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D Lab: Supply Chains

Lectures 4 and 5

Class outline:
• What is Demand?
• Demand management
• Forecasting Demand
– Bass Model
– Causal Models
– Exponential Smoothing

© Stephen C. Graves 2014 1

ARTI Air Liquide Wecycler Ghonsla BPS
Sinead Cheung 1
Neha Doshi 1
Emily Grandjean 1
Shannon Kizilski 1
Cherry Park 2
Sanjana Puri 2
Jessica Shi 1
Spencer Wenck 1
Chelsea Yeh 1
Daniel 1

© Stephen C. Graves 2014 2

Who is Alex Rogo?

If you don’t know, it means you are not reading

“The Goal”…

© Stephen C. Graves 2014 3

Assignment: Next Monday

• Book Review

This assignment is due at the beginning of class.

Prepare a one page summary of The Goal formatted
as follows:

1. List your (at most) 5 main take-aways from the

book (at most 2-3 sentence each); and

2. List the (at most) 3 main critiques (at most 2-3

sentence each) you would make about this book

© Stephen C. Graves 2014 4

Demand Management

© Stephen C. Graves 2014

5
Demand Management

© Stephen C. Graves 2014

6
What is demand?

From the Merriam-Webster dictionary,

Demand is the quantity of a commodity or

service wanted at a specified price and time.

• How can we deal with demand from a SC

point of view?
• Why is anticipating demand important?
© Stephen C. Graves 2014 7
Why forecast? - Two SC strategies

Two supply chain strategies for dealing with

demand are
• Make-to-order (MTO): the company chooses
to manufacture a product only after a request
from a customer is received.

• Make-to-stock (MTS): based on forecasts

production is done in anticipation of future
demand.

© Stephen C. Graves 2014 8

Two SC strategies - Examples

Make-to-order (MTO) Make-to-stock (MTS)

• Construction Industry • Vaccines and medicine

• Customized products • Most consumer goods

• Services/Food • Agricultural Products

More examples?
© Stephen C. Graves 2014 9
Two SC strategies - Tradeoffs

MTS MTO
Economies of Scale
✔
More dependent on demand
forecasts ✔
Longer lead time for customers ✔
Easier to scale-up
✔
Customizable products ✔
Forecasting is important for both models
© Stephen C. Graves 2014 10
Two SC strategies - Emerging Markets

In the context of emerging markets, think about the

following question:

Can you give examples of products for which a MTO model

“makes sense” in a developed economy but not in an
emerging economy?

© Stephen C. Graves 2014 11

More reasons why forecasting is important

• Forecast used for inventory planning at retail

store level and at DC level for products held in
stock (ie, MTS)

• Forecast used to determine when to order

more inventory

• Need for simple, robust methods applicable

for wide range of contexts
© Stephen C. Graves 2014 12
Forecast principles
1. Forecasts are always wrong and should always
include some measure of error
2. The longer the horizon, the larger the error
3. Method should be chosen based on need and
context
Value

Now Time

© Stephen C. Graves 2014 13

Forecasting – formal definition

Previous observations of demand

Additional info:

Forecast
System Model

Forecast period

© Stephen C. Graves 2014

14
Forecasting – formal definition

Previous observations of demand

Additional info:

Forecast

Forecast period

How would you forecast seminar lunch boxes?

• How is forecast to be used? Need for accuracy?

Units? Time period? Forecast horizon? Frequency of
revision?
• Availability and accuracy of relevant data? censored?

• Computational complexity? Data requirements?

• How predictable is the entity? Are there independent
factors that affect it or are correlated to it?
• Level of aggregation? Across geographies? Time?
Product categories?
• Type of product? New or old?

© Stephen C. Graves 2014 16

Types of forecasts

• Qualitative; expert opinions

• Diffusion models
• Causal models, eg, regression
• Disaggregation of an aggregate forecast

• Aggregation of detailed forecasts

• Time series methods

© Stephen C. Graves 2014 17

Types of forecasts

Forecasting Methods

New Products Existing products

Bass Diffusion Model Time Series Methods

Causal Models

© Stephen C. Graves 2014

18
Forecasting the adoption of

new products

© Stephen C. Graves 2014

19
Example: Water Purifier

Assume you are responsible for estimating a

demand for a new cheap and efficient water
purifier. How would you do it?

© Stephen C. Graves 2014 20

The Bass Diffusion Model

• Is a model for adoption of new products

(consumer durables)

• One of the 10 most influential papers of

“Management Science” in the last 50 years

• Widely used in marketing and strategy

• We will build the model from first

Frank Bass
principles © The University of Texas at Dallas. All rights reserved. This
content is excluded from our Creative Commons license. For
more information, see http://ocw.mit.edu/help/faq-fair-use/.

© Stephen C. Graves 2014 21

The Bass Diffusion Model

Key idea: consumers are divided into 2 groups:

Innovators Imitators
• Early adopters • Influenced by other buyers
• Not influenced by other • Word of mouth
individuals • Network effects
• Driven by advertisement or

some other external effect

© Stephen C. Graves 2014 22

Motivation for the Bass model
Total: N

. . .

Innovators with prob. r
Imitators with prob. 1‐r

. . .
© Stephen C. Graves 2014 23
Innovators Imitators Total: N

. . .
Innovators Imitators
Probability of adoption = Probability of adoption =

© Stephen C. Graves 2014 24

t = 1

Innovators Imitators Total: N

. . .
Innovators Imitators
Probability of adoption = Probability of adoption =

© Stephen C. Graves 2014 25

t = 2
Total: N

...
Innovators Imitators
Probability of adoption = Probability of adoption =
=

© Stephen C. Graves 2014 26

t = 3
Total: N

...
Innovators Imitators
Probability of adoption = Probability of adoption =
=

© Stephen C. Graves 2014 27

Motivation (board)
• Market size:
• Number of new adopters at time t:
• Total number of adopters at time t:
• Probability of being an innovator:
• Probability of an innovator adopting at time t:

• Probability of an imitator adopting at time t:

• Define p  pr; q  1  r  q

© Stephen C. Graves 2014 28

Bass Model

• We can approximate the model we just

described by

• The continuous differential equation becomes

Innovators Imitators

© Stephen C. Graves 2014 29

Bass Model

• Thus, for the continuous approximation, we

have, for , the solution

Innovators
Imitators
Total adoption

New adopters Total

Time Time
© Stephen C. Graves 2014 30
Estimation of parameters

• What parameters do we need to estimate?

– Market Size
– Imitation
– Innovation
• How do we estimate?
– Early data + linear regression
– Analogy (priors)
– Focus groups
– Macro Data
• What is missing?
© Stephen C. Graves 2014 31
Generalized Bass Model

• Let “marketing effort” evolve as x(t). The new
equation is:

• When estimating or doing focus groups, try to
map price vs. demand group

• Create a model for different prices

© Stephen C. Graves 2014 32

Bass Model Examples

© Stephen C. Graves 2014

DIRECTV

• Launched in 1992

• How many people would subscribe to satellite

TV and when?

• New technology

• p and q were estimated by analogy

• N was determined by market research and

focus groups

© Stephen C. Graves 2014 34

DIRECTV

© Stephen C. Graves 2014

35
Fitting the Bass Model

The Bass difference equation is

We can fit this equation to the data!

© Stephen C. Graves 2014

37
Example – Dengue in India
• Dengue is transmitted by a
mosquito, the Ades Aegypti

• During Summer monsoon,

stagnant water accumulates
© source unknown. All rights reserved. This content is excluded from our Creative
Commons license. For more information, see http://ocw.mit.edu/help/faq-fair-use/.

• This leads to a proliferation of

mosquito reproduction

During rainy season

• A increase in mosquitos there is a lot of
increases dengue transmission stagnant water

© Stephen C. Graves 2014 38

Example – Dengue in India

• Causal models are very useful to estimate
the occurrence of weather related
diseases (and the demand for
medicine/vaccines).

• Consider the relationship between monthly

rainfall and the occurrence of Dengue
Fever in India

© Stephen C. Graves 2014 39

Example – Dengue in India

Rainfall
1000 1500 2000 2500 3000

0.8
Dengue Index

Google Dengue Index

0.6
Rainfall (mm/month)

0.4
0.2
500

0.0
0

2004 2006 2008 2010

Time - Years
The index is an estimate by Google.org of Dengue Activity.
© Stephen C. Graves 2014
40
Causal Models

Can you think of other examples?

© Stephen C. Graves 2014

41
Types of forecasts

Forecasting Methods

New Products Existing products

Bass Diffusion Model Time Series Methods

Causal Models

© Stephen C. Graves 2014

42
Time Series Methods

• Used when there is limited information
available about exogenous factors that
influence demand

• Short horizon forecast (usually < 1 year)

• We will discuss methods that are easy to

implement
© Stephen C. Graves 2014 43
Time Series – Components of Demand
In practice, it is useful to understand and estimate 4
components of demand: mean, trend, seasonality
and randomness.

© Stephen C. Graves 2014 44

Randomness

• Usually modeled using probability

distributions
• Two components: mean and variance
– Mean: Average Value
– Variance: “spread”

© Stephen C. Graves 2014 45

Time Series Methods
Assume demand has the form

Permanent component: Randomness

Mean, trend, seasonality

10
5
In addition, assume that

0
Mean:

-5
Variance:

-10
0 20 40 60 80 100

Randomness
© Stephen C. Graves 2014 46
Time Series Methods

Assume demand has the form

In addition, assume that

Forecast method determines
: Expost estimate of the permanent
component
: forecast at time
© Stephen C. Graves 2014 47
Time Series Methods

• What is permanent component and expost
estimate?

Expost estimate is where we “think” that the

permanent component is in the time period

• We are ready to discuss forecasting

methods
© Stephen C. Graves 2014 48
Moving Average

• Recent observations are more “informative”
than old observations
• Uses n previous observations
• Expost estimate of the permanent
component is

• Forecast is

© Stephen C. Graves 2014 49

Moving Average

• Advantages: Simple, only one “knob” (n)

• Disadvantages: weighs all previous

demand equally

• Example

Weighted Moving Average
• Weighs previous observations using
weights where

• We have the expost estimate

and the forecast (again) is

Weighted Moving Average

• Advantages: Flexibility

• Disadvantages: too many “knobs”

• Solution: Exponential Smoothing

Exponential Smoothing
• Weighs previous observations using a
geometric time series such that

Note that

Thus,

Exponential Smoothing

• Only one parameter to adjust -

• Doesn’t weigh previous forecasts equally

• Very simple update equation

• Examples

Exponential Smoothing

vs. Moving Average

• Assume permanent component is constant

• For exponential smoothing:

• For moving average

Holt-Winters Method
• So far, we did not explicitly estimate
seasonality or trend

• Assume that the permanent component is

10
0

Trend Seasonality
-5

5
-10

0
-15

-5
-10
-20

0 20 40 60 80 100 0 20 40 60 80 100

Holt-Winters Method

• So far, we did not explicitly estimate
seasonality or trend

• Assume that the permanent component is

• Demand is

Holt-Winters Method

• Assume we know that the length of a
season is L

• Let be the deseasonalized

permanent component

• We now need to estimate,

Idea: Exponential smoothing on all the parameters!

• Deseasonalized demand

• Trend

• Seasonal factor

Expost Estimates

Deseasonalized demand