Forecasting

Making good estimates is the main purpose of forecasting. As no one can see the future, operation
managers have to make decisions every day even with doubtful results. Yet those decisions need to be
made and executed to move the firm forward.

Forecasting is the art and science of predicting what will happen in the future.

Forecasting is conducted by what are referred to as time horizons.

1. Short range forecast. While it can be up to one year, this forecast is usually used for three months or
less. It is used for planning purchases, hiring, job assignments, production levels, and the like.

2. Medium range forecast. This is generally three months to three years. Medium range forecasts are used
for sales and production planning, budgeting, and analysis of different operating plans.

3. Long range forecast. Generally three years or more in time span, it is used for new products, capital
expenditures, facility expansion, relocation, and research and development.

Medium and long range forecasts differ from short range forecasts by other characteristics as well.

1. Medium and long range forecasts are more comprehensive in nature. They support and guide
management decisions in planning products, processes, and plants.

2. Short term forecasts use different methodologies than the others. Most short term forecasts are
quantitative in nature and use existing data in mathematical formulas to anticipate immediate future
needs and impacts.

3. Short term forecasts are more accurate than medium or long range forecasts. A lot can change in three
months, a year, three years, and longer. Factors that could influence those forecasts change every day.

Types of Forecasts

There are three major types of forecasting, regardless of time horizon, that are used by organizations.

1. Economic forecasts address the business cycle. They predict housing starts, inflation rates, money
supplies, and other indicators.

2. Technological forecasts monitor rates of technological progress. This keeps organizations abreast of

trends and can result in exciting new products. New products may require new facilities and equipment,
which must be planned for in the appropriate time frame.

3. Demand forecasts deal with the company's products and estimate consumer demand. These are also
referred to as sales forecasts, which have multiple purposes. In addition to driving scheduling, production,
and capacity, they are also inputs to financial, personnel, and marketing future plans.

Forecasting Approaches
There are two predominant approaches to forecasting: qualitative approach and quantitative analysis. A
qualitative approach uses factors such as experience, instinct and emotion while the quantitative analysis
relies heavily on mathematics, historical data and casual variables.

Qualitative methods include:

1. Jury of executive opinion. This is based on the inputs and decisions of high-level experts or
management.

2. Delphi method. Decision makers, staff, and respondents all meet to develop the forecast. Every
shareholder in the process provides input.

3. Sales force composite. Each sales person provides an individual estimate which is reviewed for realism
by management, and then combined for a big picture view.

4. Consumer market survey. This is surveying the prospective customer base to determine demand for
existing products and can also be used for new products.

As these methods are based mostly on instinct, experience and human input, be cautious of excessive
optimism.

Quantitative methods are in two categories. Time-series models predict by assuming the future is a

function of the past. Associative models uses similar historical data inputs and then includes other external
variables such as advertising budget, housing, competitor's prices and more.

Time Series Models Associative Model

Naïve method Linear regression

Moving averages

Exponential smoothing

Trend projection