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4 Forecasting

PowerPoint presentation to accompany

Heizer and Render
Operations Management, 10e
Principles of Operations Management, 8e

Mohammad Firouz, Ph.D.

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Forecasting at Disney World

 Global portfolio includes parks in Hong
Kong, Paris, Tokyo, Orlando, and
Anaheim
 Revenues are derived from people – how
many visitors and how they spend their
money
 Daily management report contains only
the forecast and actual attendance at
each park

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Forecasting at Disney World

 Disney generates daily, weekly, monthly,
annual, and 5-year forecasts
 Forecast used by labor management,
maintenance, operations, finance, and
park scheduling
 Forecast used to adjust opening times,
rides, shows, staffing levels, and guests
admitted

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Forecasting at Disney World

 20% of customers come from outside the
USA
 Economic model includes gross
domestic product, cross-exchange rates,
arrivals into the USA
 A staff of 35 analysts and 70 field people
survey 1 million park guests, employees,
and travel professionals each year

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Forecasting at Disney World

 Inputs to the forecasting model include
airline specials, Federal Reserve
policies, Wall Street trends,
vacation/holiday schedules for 3,000
school districts around the world
 Average forecast error for the 5-year
forecast is 5%
 Average forecast error for annual
forecasts is between 0% and 3%

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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
increase market price or quality change image, critical
share image price, or quality

R&D engineering is Strengthen niche Competitive costs

Company Strategy/Issues

critical become critical

Defend market
position Drive-through
Internet search engines restaurants
CD-ROMs
iPods LCD &
Xbox 360 plasma TVs
Sales
Avatars

Boeing 787 Analog

TVs
Twitter
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 products and
services

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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
advantages

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Seven Steps in Forecasting

1. Determine the use of the forecast
2. Select the items to be forecasted
3. Determine the time horizon of the
forecast
4. Select the forecasting model(s)
5. Gather the data
6. Make the forecast
7. 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
1. Jury of executive opinion
 Pool opinions of high-level experts,
sometimes augment by statistical
models
2. Delphi method
 Panel of experts, queried iteratively

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Overview of Qualitative
Methods
3. Salesforce composite
 Estimates from individual
salespersons are reviewed for
reasonableness, then aggregated
4. Consumer Market Survey
 Ask the customer

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Jury of Executive Opinion

 Involves small group of high-level
experts and managers
 Group estimates demand by working
together
 Combines managerial experience with
statistical models
 Relatively quick
 ‘Group-think’
disadvantage

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Delphi Method
 Iterative group
process,
continues until Decision Makers
(Evaluate responses
consensus is and make decisions)
reached Staff
(Administering
survey)
 3 types of
participants
 Decision makers
 Staff Respondents
(People who can
 Respondents make valuable
judgments)
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Salesforce 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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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
5. Linear regression associative
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,
no other variables important
 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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Components of Demand
Trend
component
Demand for product or service

Seasonal peaks

Actual demand
line

Average demand
over 4 years

Random variations
| | | |
1 2 3 4
Time (years)
Figure 4.1
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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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Calculus Review
t At
1 10
2 5
3 10

 What’s the value of A1?

 What about A2?
 What A1+A2?

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Calculus Review

Ft = 5×t
 What’s the value of F1?
 What about F2?
 What about F1+F2?

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Calculus Review
t At
1 10
2 5
3 10

Ft = 5×t + At-1
 What’s the value of F1?
 What about F2?
 What about F1+A2?

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Naive Approach
 Assumes demand in next
period is the same as
demand in most recent period
 e.g., If January sales were 68, then
February sales will be 68
 Sometimes cost effective and
efficient
 Can be good starting point

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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

n-period Moving Average Forecast =

Sum [demand in previous n periods]

n
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Moving Average Example

Actual 3-Month
Month Shed Sales Moving Average
January 10
February 12
March 13
April 16 (10 + 12 + 13)/3 = 11 2/3
May 19 (12 + 13 + 16)/3 = 13 2/3
June 23 (13 + 16 + 19)/3 = 16
July 26 (16 + 19 + 23)/3 = 19 1/3

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Graph of Moving Average

Moving
30 –
Average
28 –
Forecast
26 – Actual
24 – Sales
Shed Sales

22 –
20 –
18 –
16 –
14 –
12 –
10 –
| | | | | | | | | | | |
J F M A M J J A S O N D

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Weighted Moving Average

 Used when some trend might be
present
 Older data usually less important
 Weights based on experience and
intuition
Sum [(weight for each period)×
(demand in that period)]
WMA Forecast =
Sum [weights]

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Weights Applied Period

Weighted Moving
3 Average
Last month
2 Two months ago
1 Three months ago
6 Sum of weights

Actual 3-Month Weighted

Month Shed Sales Moving Average
January 10
February 12
March 13
April 16 [(3 x 13) + (2 x 12) + (10)]/6 = 121/6
May 19 [(3 x 16) + (2 x 13) + (12)]/6 = 141/3
June 23 [(3 x 19) + (2 x 16) + (13)]/6 = 17
July 26 [(3 x 23) + (2 x 19) + (16)]/6 = 201/2

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Potential Problems With

Moving Average
 Increasing n smooths the forecast
but makes it less sensitive to
changes
 Does not forecast trends well
 Requires extensive historical data

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Moving Average And

Weighted Moving Average
Weighted
moving
30 – average

25 –
Sales demand

20 – Actual
sales
15 –
Moving
10 – average

5 –
| | | | | | | | | | | |
J F M A M J J A S O N D
Figure 4.2
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Exponential Smoothing
 Form of weighted moving average
 Weights decline exponentially
 Most recent data weighted most
 Requires smoothing constant 
(read as alpha)
 Alpha ranges from 0 to 1
 And is subjectively chosen
 Involves little record keeping of past
data
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Exponential Smoothing
New forecast = alpha×(Previous actual demand)
(1-alpha)×(Previous forecast)

Ft =  At – 1 + (1- )Ft – 1

Where Ft = new forecast

Ft – 1 = last period’s forecast
At – 1 = last period’s actual demand
 = smoothing constant (0 ≤  ≤ 1)

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Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant  = 0.2

New forecast = 0.2×153 + (1 - 0.2)×142

= 30.6 + 113.6
= 144.2 ≈ 144 cars

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Effect of
Smoothing Constants

Weight Assigned to
Most 2nd Most 3rd Most 4th Most 5th Most
Recent Recent Recent Recent Recent
Smoothing Period Period Period Period Period
Constant () (1 - ) (1 - )2 (1 - )3 (1 - )4

 = .1 .1 .09 .081 .073 .066

 = .5 .5 .25 .125 .063 .031

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Impact of Different 
225 –

Actual  = .5
200 – demand
Demand

175 –

 = .1
150 – | | | | | | | | |
1 2 3 4 5 6 7 8 9
Quarter

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Impact of Different 
225 –

Actual  = .5
Choose
200 – demandof 
high values
when underlying average
Demand

is likely to change
175 –
Choose low values of 
when underlying average  = .1
is stable|
150 – | | | | | | | |
1 2 3 4 5 6 7 8 9
Quarter

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Choosing 

The objective is to obtain the most

accurate forecast no matter the
technique
We generally do this by selecting the
model that gives us the lowest forecast
error
Error =
Actual for Each Period - Forecast for That Period
= At - Ft
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Preliminary Definitions
Absolute Error for Each Period =
|Actual for That Period - Forecast for That Period|
= |At – Ft|
Normalized Absolute Error for Each Period =
Absolute Error for That Period
Actual for That Period
|At – Ft|
=
At
Squared Absolute Error for Each Period =
(Absolute Error for That Period)2
= |At – Ft|2
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Common Measures of Error

Mean Absolute Deviation (MAD)

Sum[Absolute Errors]
MAD =
n

Mean Squared Error (MSE)

Sum[Squared Absolute Errors]

MSE =
n
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Common Measures of Error

Mean Absolute Percent Error (MAPE)

Sum[Normalized Absolute Errors]

MAPE =
n

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Comparison of Forecast
Errors
Rounded Rounded
Actual Forecast Forecast
Quarter Tonnage with for with for
t Unloaded  = .10  = .10  = .50  = .50
1 180 175 5.00 175 5.00
2 168 175.5 7.50 177.50 9.50
3 159 174.75 15.75 172.75 13.75
4 175 173.18 1.82 165.88 9.12
5 190 173.36 16.64 170.44 19.56
6 205 175.02 29.98 180.22 24.78
7 180 178.02 1.98 192.61 12.61
8 182 178.22 3.78 186.30 4.30
82.45 98.62

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Comparison of Forecast
Errors
Rounded Rounded
Sum[Absolute
Actual ForecastErrors] Forecast
Quarter Tonnage with for with for
MADt = Unloaded  = .10  = .10  = .50  = .50
n
1 180 175 5.00 175 5.00
2For  =168.10 175.5 7.50 177.50 9.50
3 159 174.75 15.75 172.75 13.75
4 175
= 82.45/8
173.18
= 10.31
1.82 165.88 9.12
5
6
For  =190
.50 173.36
205 175.02
16.64
29.98
170.44
180.22
19.56
24.78
7 180= 98.62/8
178.02= 12.33
1.98 192.61 12.61
8 182 178.22 3.78 186.30 4.30
82.45 98.62

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Comparison of Forecast
Errors
Rounded Rounded
Actual Forecast Forecast
Quarter Tonnage with for with for
t Unloaded  = .10  = .10  = .50  = .50
1 180 175 25.00 175 25.00
2 168 175.5 56.25 177.50 90.25
3 159 174.75 248.06 172.75 189.06
4 175 173.18 3.31 165.88 83.17
5 190 173.36 276.89 170.44 382.59
6 205 175.02 898.80 180.22 614.05
7 180 178.02 3.92 192.61 159.01
8 182 178.22 14.29 186.30 18.49
1526.52 1561.63

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Comparison of Forecast
Errors
Rounded Rounded
Sum[Squared
Actual Absolute Errors]
Forecast Forecast
Tonnage with for with for
MSE =
Quarter Unloaded  = .10  = .10  = .50  = .50
n
1 180 175 25.00 175 25.00
2  = .10
For 168 175.5 56.25 177.50 90.25
3 159 174.75 248.06 172.75 189.06
4
=
175
1526.52/8
173.18
= 190.82
3.31 165.88 83.17
5 190 173.36 276.89 170.44 382.59
For
6  = 205
.50 175.02 898.80 180.22 614.05
7 180 178.02 = 195.20
= 1561.63/8 3.92 192.61 159.01
8 182 178.22 14.29 186.30 18.49
1526.52 1561.63

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Comparison of Forecast
Errors
Rounded Rounded
Actual Forecast Forecast
Quarter Tonnage with for with for
t Unloaded  = .10  = .10  = .50  = .50
1 180 175 2.78% 175 2.78%
2 168 175.5 4.46% 177.50 5.65%
3 159 174.75 9.91% 172.75 8.65%
4 175 173.18 1.04% 165.88 5.21%
5 190 173.36 8.76% 170.44 10.29%
6 205 175.02 14.62% 180.22 12.09%
7 180 178.02 1.10% 192.61 7.01%
8 182 178.22 2.08% 186.30 2.36%
44.75% 54.04%

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Comparison of Forecast
Error s
Sum[Normalized Absolute Errors]
MAPE =Actual Rounded Rounded
Forecast n Forecast
Quarter Tonnage with for with for
t Unloaded  = .10  = .10  = .50  = .50
1
 = .10 175
For 180 2.78% 175 2.78%
2 168 = 44.75/8
175.5 =4.46%
5.59% 177.50 5.65%
3 159 174.75 9.91% 172.75 8.65%
4 =
For 175 .50 173.18 1.04% 165.88 5.21%
5 190 173.36 8.76% 170.44 10.29%
6 205 = 54.04/8 = 6.76%
175.02 14.62% 180.22 12.09%
7 180 178.02 1.10% 192.61 7.01%
8 182 178.22 2.08% 186.30 2.36%
44.75% 54.04%

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Comparison of Forecast
Errors
Rounded Absolute Rounded Absolute
Actual Forecast Deviation Forecast Deviation
Quarter Tonnage with for with for
t Unloaded  = .10  = .10  = .50  = .50
1 180 175 5.00 175 5.00
2 168 175.5 7.50 177.50 9.50
3 159 174.75 15.75 172.75 13.75
4 175 173.18 1.82 165.88 9.12
5 190 173.36 16.64 170.44 19.56
6 205 175.02 29.98 180.22 24.78
7 180 178.02 1.98 192.61 12.61
8 182 178.22 3.78 186.30 4.30

MAD 10.31 12.33

MSE 190.82 195.20
MAPE 5.59% 6.76%
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