6.

1 Forecasting and Production Planning

6.1.1 Forecasting

It is a projection based upon past data or it is an estimate of an event which will happen in future.
Forecasting is the ability to see into future and make educated predictions about any number of
production elements such as material sourcing, job allocation, transport logistics, and more.

Forecasting is a planning tool that helps management in its attempt to cope with uncertain of the
feature relying mainly on data, the past and present and analysis of trends. Forecasting starts with
assumption based on the management experience, knowledge and judgement. These estimates
are projected into the coming month or year using one or more techniques such as Box-jenkins
models, Delphi method etc

In the uncertain worlds of managers, sales executive, production schedulers, product planners,
economic policy makers and others in supervisory position, decision is the raison d’etre and
since most decisions are made for future they are invariably based on forecasts.

Forecasting therefore is the art and science of producing future event such as estimating the
future value of a time series (e.g demand for a product). The objective of time series forecasting
is to extrapolate into the future identified pattern interval forecasts.

Need of forecasting:

 When there is a time lag between awareness of an impending event or need and occurrence
of that event. This lead time is the main reason of planning and forecasting.
 Planning is the fundamental activity of management. Forecasting forms the basis of
planning.
 It is essential for the organization to know for what level of activities one is planning before
investments in input.

6.1.2 Production Planning

Planning in this respect refers to the concept of deciding the method of production to be adopted.
It usually follows the pre-planning stage where the type of product has been decided upon and
designed output agreed in conjunction with the scale unit and all matters of cost, price and
delivery times have been settled.

Production planning is simply a projection of future production activity. The process of

production planning contains a number of steps, and forecasting is an essential step, because it
requires that t and he company project its production needs into the future.

6.2 Forecasting and Production Planning

Forecasting is predicting future demand for a product. The information regarding future demand
is essential for planning and scheduling production, purchase of raw materials, acquisition of
finance and advertising. It is much more important where a large-scale production is being
planned and production involves a long gestation period.

The information regarding future demand is essential also for the existing firms for avoiding
under or over-production. Most firms are, in fact, very often confronted with the question as to
what would be the future demand for their product. For, they will have to acquire .inputs and
plan their production accordingly. The firms are hence required to estimate the future demand for
their product. Otherwise, their functioning will be shrouded with uncertainty and their objective
may be defeated.

6.3 Forecasting techniques.

There are basically two approaches to forecasting, qualitative and quantitative. Qualitative
forecasting techniques are subjective based on the opinion and judgment of consumers and
expert. They are appropriate to use when past data are not available. Examples are Executive
opinions, Delphi method, Consumers survey etc.

Quantitative techniques employ the use of mathematical formulas and calculations to predict the
future. These models and calculations assume that what happened in the past will happen in
some form in the future. They are appropriate to use when past data are available. Quantitative
may take the form of a linear trend, a regression analysis, a moving average etc.

6.3.1 Qualitative Techniques

1. Consumer Survey Method - The consumer survey method of demand forecasting involves
direct interview of the potential consumers. It may be in the form of:

* complete enumeration, or * sample survey.

These consumer survey methods are used under different conditions and for different purposes.

- Direct Interview Method:

The most direct and simple way of assessing future demand for a product is to interview the
potential consumers or users and to ask them what quantity of the product they would -be willing
to buy at different prices over a given period say, one year. This method is known as direct
interview method. This method may cover almost all the potential consumers or only selected
groups of consumers from different cities or parts of the area of consumer concentration. When
all the consumers are interviewed, the method is known as complete enumeration survey method,
and when only a few selected representative consumers are interviewed, it is known as sample
survey method. In case of industrial inputs, interview of postal inquiry of only end-users of a
conduct may be required. These are described as follows:

i. Complete Enumeration Method: In this method, almost all potential users of the product are
contacted and are asked about their future plan of purchasing the product in question. The
quantities indicated by the consumers are added together to obtain the probable demand.
This method has certain limitations. It can be used successfully only in case of those products
whose consumers are concentrated in a certain region or locality. In case of a widely dispersed
market, this method may not be physically possible or may prove very costly in terms of both
money and time. Besides, the demand forecast through this method may not be reliable for many
reasons:

(a) consumers themselves may not be knowing their actual demand in future and hence may be
unable or not willing to answer the query; (ii) even if they answer, their answer to hypothetical
questions may be only hypothetical, not real; and

(b) their plans may change with the change in factors not included in the questionnaire

ii. Sample Survey Method: Under this method, only a few potential consumers and users
selected from the relevant market through a sampling method are surveyed. Method of survey
may be direct interview or mailed questionnaire to the sample-consumers.

This method is simpler, less costly, and less time-consuming than the comprehensive survey
method. This method is generally used to estimate short term demand from business firms,
government department arid agencies, and also by the households who plan their future
purchase.

Sample survey method is widely used to forecast demand. This method, however, has some
limitations. The forecaster therefore should not attribute reliability to the forecast more than
warranted. Besides, sample survey method can be used to verify the demand forecast made by
using quantitative or statistical methods. Although some authors suggest that this method should
be used to supplement the quantitative method for forecasting rather than to replace it; this
method can be gainfully used where market area is localized.

2. Expert-Opinion Method:
It is one of the most widely used and influential forecasting technique where the opinions and
intuition of management is utilized. The process brings together in an organized manner,
personal judgments about the process being analyzed. Main reliance is on human judgment. In
this method, the executive uses his own anticipation and what he hears from others. Outside
experts are also consulted and the other executive heads are also required to give their opinion in
the matter. Salesmen are to provide information about customer’s attitude and preferences and
the activities of competitors. Thus all possible information from the opinions of various persons
is combined together to change the subjective opinions into quantitative forecasts. No doubt
experts and experienced managers can be useful as guides and serve as reliable source of
information, but one has to make his own decision from all the opinions. Thus in this method
broad guess is made by the executive in charge of a business.

3. Delphi Method:
Delphi method of demand forecasting is an extension of the simple expert opinion poll method.
This method is used to consolidate the divergent expert opinions and to arrive at a compromise
estimate of future demand. The Process is simple. Under Delphi method, the experts are
provided information on estimates of forecasts of other experts along with the underlying
assumptions. The experts may revise estimates in the light of forecasts made, by other experts.
The consensus of experts about the forecasts constitutes the final forecast. It may be noted that
the empirical studies conducted in the USA have shown that unstructured opinions of the experts
is most widely used technique of forecast. This may appear a bit unusual in as much as this gives
the impression that sophisticated techniques, e.g., simultaneous equations model and statistical
methods, are not the techniques which are used most often. The Delphi technique can be used for
cross-checking the information on forecasts.

4. Market Studies and Experiments: An alternative method of collecting necessary

information regarding demand is to carry out market studies and experiments in consumer’s
behaviour under actual, though controlled, market conditions. This method is known in common
parlance as market experiment method. Under this method, firms first select some areas of the
representative markets - three or four cities having similar features, viz., population, income
levels, cultural and social background, occupational distribution, choices and preferences of
consumers. Then, they carry out market experiments by changing prices, advertisement
expenditure, and other controllable variables in the demand function under the assumption that
other things remain the same. The controlled variables may be changed over time either
simultaneously in all the markets or in the selected markets. After such changes are introduced in
the market, the consequent changes in the demand over a period of time (a week, a fortnight, or
month) are recorded.

The experiment reveals the consumers responsiveness to the changes made in prices, packages
and displays, etc.

6.3.2 Quantitative techniques

Quantitative forecasting technique can be applied when two conditions are satisfied:

I) Numerical information about past is available;

II) It is reasonable to assume that some aspect of the past patterns will continue into
future.

Most quantitative prediction problems use either time series data (collected at regular intervals
over time) or cross-sectional data (collected at a single point in time)

1. Exponential trend
When sales (or any dependent variable) have increased over the past years at an increasing rate
or at a constant percentage rate, then the appropriate trend equation to be used is exponential
trend equation of the following forms.

(1) Double-log trend of the form

Y = aTb ……… (1)

or its double logarithmic form

lg Y = log a + b log T

This form of trend equation is used when growth rate is increasing. The trend method is quite
popular in business forecasting because of its simplicity. It is simple because only time-series
data on sales are required. The analyst is supposed to possess only working knowledge of
statistics. Since data requirement of this method is limited, it is also in expensive. Besides, trend
method yield fairly reliable estimates of future course of demand.

2. Moving average - A moving average is an average of some fixed or pre-determined number

of observations (given by the period) which moves through the series by dropping of top item of
the previous averaged group and adding the next item below in each successive average.

Moving average method of forecasting is used only for short term predictions. Besides, this
method is suitable for forecasting demand with only stationary time-series sales data. Stationary
time-series is one which does not reveal a long-term trend.

The calculations are based on some predetermined period in weeks, months, years etc. The
period depends on the nature of characteristics in the time series and can be determined by
plotting the observations on graph paper.

The calculated values of the moving averages became the basis for determining the expected
future sales. If the underlying demand pattern is stationary i.e. at a constant mean demand level
expect, of course, for the superimposed random fluctuations or noise, the moving averages
method provided a simple and good estimate.

The moving average method for forecasting suffers from the following defects:

(i) Records of the demand data have to be retained over a fairly long period.

(ii) If demand series depicts trend as against the stationary level the moving average method
would proving forecasts that lags the original series.

3. Simple Regression: In simple regression technique, a single independent variable is used to

estimate a statistical value of the ‘dependent variable’, that is, the variable to be forecast. The
technique is similar to trend fitting. An important difference between the two is that, in trend
fitting, independent variable is ‘time’ (t) whereas in regression equation, the chosen independent
variable is the single most important determinant of demand. Besides, the regression method is
less mechanical than trend fitting method of projection.
3. Multiple Regression: The Multiple regression equation is used where demand for a
commodity is deemed to be the function of many variables or in cases in which number of
explanatory variables is greater than one. The procedure of multiple regression analysis may be
briefly described here. The first step in multiple regression analysis is to specify the variables
that are supposed to explain the variations in the demand for the product under reference. The
explanatory variables are generally chosen from the determinants of demand, viz., price of the
product, price of its substitute, consumers’ income, and their taste and preference. For estimating
the demand for durable consumer goods, (e.g., TV sets, refrigerators, house, etc.), the other
variables which are considered are availability of credit and rate of interest. For estimating
demand for capital goods (e.g., machinery and equipments), the relevant variables are additional
corporate investment, rate of depreciation, cost of capital goods, cost of other inputs (e.g., labour
and raw materials), market rate of interest, etc. These variables are treated as independent
variables.

Once independent variables are specified, the second step is to collect time series data on the
independent variables. After necessary data are collected, the next step is to specify the form’ of
equation which can appropriately describe the nature and extent of relationship between the
dependent and independent variables.

Types of Data required for forecasting

i) Historical sales data

ii) Past and current financial metrics
iii) Sales team projection – Sales team information.

6.4 The limitations of forecasting.

Limitations of forecasting are:

1. Lack of historical data: Past sales figures may not always be available with an organisation.
For example, in case of a new commodity, there is unavailability of historical sales data. In such
cases, new data is required to be collected for demand forecasting, which can be cumbersome
and challenging for an organisation.
2. Unrealistic assumptions: Forecasting is based on various assumptions, which may not always
be consistent with the present market conditions. In such a case, relying on these assumptions
may produce incorrect forecasts for the future.
3. Cost incurred: Forecasting incurs different costs for an organisation, such as implementation
cost, labour cost, and administrative cost. These costs may be very high depending on the
complexity of the forecasting method used and the resources utilised. Owing to limited means, it
becomes difficult for new startups and small scale organisations to perform demand forecasting.
4. Change in fashion: Consumer’s tastes and preferences continue to change with a change in
fashion. This limits the use of demand forecasting as it is generally based on historical trend
analysis.
5. Lack of expertise: Demand forecasting requires effective skills, knowledge and experience of
personnel making forecasts. In the absence of trained experts, forecasting becomes a challenge
for an organisation. This is because if the responsibility of demand forecasting is assigned to
untrained personnel, it could bring huge losses to the organisation.
6. Psychological factors: Consumers usually prefer a particular type of product over others.
However, factors such as fear of war and changes in economic policy, could affect consumers
psychology. In such cases, the outcomes of forecasting may no longer remain relevant for the
time period.

6.5 Production Planning Process

Production planning is the process of deciding how a product or service will be manufactured
before the manufacturing process begins. In other words, it is how you plan to manage your
supply chain, raw materials, employees and the physical space where the manufacturing process
takes place. There are five steps in production planning.

1. Estimate/Forecast Demand: Before production planning, the first action to take is

forecasting demands for your product. Understanding product demand planning is the best way
to decide which product planning method is the best choice for your operation. From here, you
will be able to estimate which resources are required and how they will be used in the
manufacturing process. Forecasting can be done based on factors like historical data and market
trends/demands. Drawing out proper forecasts helps planning the type and quantity of materials
to be produced also the planning of raw materials.
2. Control Inventory: Accessing inventory is about more than simply taking stock, ensuring
adequate stock and avoid shortages or letting things go to waste. Both inventory shortage and
inventory surplus are undesirable states. For this step, focus on the inventory control and
inventory management techniques you can use to handle inventory in the most efficient way
possible. A well controlled raw material inventory helps run a smooth production line.
3. Resource Planning: A successful production plan requires you to be familiar with the
resource planning details of the manufacturing process. Note the minimum number of people and
raw material requirements necessary to create a product or execute a service. You need to also
consider what machines and systems are essential for executing your production plan. Hence,
plan for every machine, raw material, workstation, warehouse, and employee.
4. Monitor Production: As production takes place, monitor how the results compare to the
production schedule and resource management projections. This is something that should
continually take place and be documented during the production process.
5. Adjust the Plan to make Production more efficient in the future: The final step of
production planning is to reflect on the information you gained and strategize what can be done
to make the production plan run smoothly in the future. It is important to be flexible and adapt to
these changes quickly so that the planned quantities can be delivered on time.