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. 4–8

 Learning Objectives
When you complete this chapter, you
should be able to :
Describe or Explain:
 Moving averages
 Exponential smoothing
 Trend projections
 Regression and correlation analysis
 Measures of forecast accuracy

© 2006 Prentice Hall, Inc. 4–9

 What is Forecasting?
 Process of
predicting a future
event
 Underlying basis of
??
all business
decisions
 Production
 Inventory
 Personnel
 Facilities
© 2006 Prentice Hall, Inc. 4 – 14
 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
© 2006 Prentice Hall, Inc. 4 – 15
 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

© 2006 Prentice Hall, Inc. 4 – 16

 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

© 2006 Prentice Hall, Inc. 4 – 17

 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

© 2006 Prentice Hall, Inc. 4 – 20

 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

© 2006 Prentice Hall, Inc. 4 – 21

 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
© 2006 Prentice Hall, Inc. 4 – 22
 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

© 2006 Prentice Hall, Inc. 4 – 23

 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

© 2006 Prentice Hall, Inc. 4 – 24

 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

© 2006 Prentice Hall, Inc. 4 – 25

 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

© 2006 Prentice Hall, Inc. 4 – 26

 Overview of Qualitative
Methods
 Sales force composite
 Estimates from individual
salespersons are reviewed for
reasonableness, then aggregated
 Consumer Market Survey
 Ask the customer

© 2006 Prentice Hall, Inc. 4 – 27

 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

© 2006 Prentice Hall, Inc. 4 – 28

 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

© 2006 Prentice Hall, Inc. 4 – 29

 Delphi Method
 Iterative group Decision Makers
(Evaluate
process, responses and
continues until make decisions)
consensus is
reached Staff
(Administering
 3 types of survey)
participants
 Decision makers
 Staff Respondents
(People who can
 Respondents make valuable
judgments)
© 2006 Prentice Hall, Inc. 4 – 30
 Consumer Market Survey

 Ask customers about purchasing

plans
 What consumers say, and what
they actually do are often different
 Sometimes difficult to answer

© 2006 Prentice Hall, Inc. 4 – 31

 Overview of Quantitative
Approaches
1. Naive approach
2. Moving averages
Time-Series
3. Exponential Models
smoothing
4. Trend projection
Associative
5. Linear regression Model

© 2006 Prentice Hall, Inc. 4 – 32

 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

© 2006 Prentice Hall, Inc. 4 – 33

 Time Series Components

Trend Cyclical

Seasonal Random

© 2006 Prentice Hall, Inc. 4 – 34

 Components of Demand
Trend
component
Demand for product or service

Seasonal peaks

Actual
demand

Average
demand over
Random four years
variation
| | | |
1 2 3 4
Year Figure 4.1
© 2006 Prentice Hall, Inc. 4 – 35
 Trend Component
 Persistent, overall upward or
downward pattern
 Changes due to population,
technology, age, culture, etc.
 Typically several years
duration

© 2006 Prentice Hall, Inc. 4 – 36

 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
© 2006 Prentice Hall, Inc. 4 – 37
 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
© 2006 Prentice Hall, Inc. 4 – 38
 Random Component
 Erratic, unsystematic, ‘residual’
fluctuations
 Due to random variation or
unforeseen events
 Short duration and
nonrepeating

M T W T F
© 2006 Prentice Hall, Inc. 4 – 39
 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

© 2006 Prentice Hall, Inc. 4 – 40

 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

© 2006 Prentice Hall, Inc. 4 – 41

 Moving Average Example :
3-month moving average forecast to be
computed for garden storage sheds :

© 2006 Prentice Hall, Inc. 4 – 42

 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

© 2006 Prentice Hall, Inc. 4 – 43

 Graph of Moving Average
Moving
Average
30 –
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

© 2006 Prentice Hall, Inc. 4 – 44

 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

© 2006 Prentice Hall, Inc. 4 – 45

 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

© 2006 Prentice Hall, Inc. 4 – 46

 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

© 2006 Prentice Hall, Inc. 4 – 47

 Moving Average And
Weighted Moving Average
Weighted
moving
30 – average
25 –
Sales demand

20 – Actual
sales
15 –
Moving
10 – average

5 –
| | | | | | | | | | | |
Figure 4.2
J F M A M J J A S O N D

© 2006 Prentice Hall, Inc. 4 – 48

 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
© 2006 Prentice Hall, Inc. 4 – 49
 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)
© 2006 Prentice Hall, Inc. 4 – 50
© 2006 Prentice Hall, Inc. 4 – 51
 Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant  = .20

© 2006 Prentice Hall, Inc. 4 – 52

 Exponential Smoothing
Example
Predicted demand = 142 Ford Mustangs
Actual demand = 153
Smoothing constant  = .20

New forecast = 142 + .2(153 – 142)

© 2006 Prentice Hall, Inc. 4 – 53

 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

© 2006 Prentice Hall, Inc. 4 – 54

 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

© 2006 Prentice Hall, Inc. 4 – 55

 Impact of Different 

225 –
Actual  = .5
demand
200 –
Demand

175 –
 = .1
| | | | | | | | |
150 –
1 2 3 4 5 6 7 8 9
Quarter

© 2006 Prentice Hall, Inc. 4 – 56

 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

Forecast error = Actual demand - Forecast value

= At - Ft

© 2006 Prentice Hall, Inc. 4 – 57

 Common Measures of Error

Mean Absolute Deviation (MAD)

∑ |actual - forecast|
MAD =
n

Mean Squared Error (MSE)

∑ (forecast errors)2
MSE =
n
© 2006 Prentice Hall, Inc. 4 – 58
 Common Measures of Error

Mean Absolute Percent Error (MAPE)

n
100 ∑ |actuali - forecasti|/actuali
MAPE = i=1
n

© 2006 Prentice Hall, Inc. 4 – 59

© 2006 Prentice Hall, Inc. 4 – 60
 Comparison of Forecast
Error
Rounded Absolute Rounded Absolute
Actual Forecast Deviation Forecast Deviation
Tonnage with for with for
Quarter Unloaded  = .10  = .10  = .50  = .50
1 180 175 5 175 5
2 168 176 8 178 10
3 159 175 16 173 14
4 175 173 2 166 9
5 190 173 17 170 20
6 205 175 30 180 25
7 180 178 2 193 13
8 182 178 4 186 4
84 100

© 2006 Prentice Hall, Inc. 4 – 61

 Comparison of Forecast
Error
∑ |deviations|
Rounded Absolute Rounded Absolute
MADActual
= Forecast Deviation Forecast Deviation
Tonage n
with for with for
Quarter Unloaded  = .10  = .10  = .50  = .50
1
For  =
180
.10 175 5 175 5
2 168 = 84/8 = 10.50
176 8 178 10
3 159 175 16 173 14
4 For 175
= .50 173 2 166 9
5 190 173 17 170 20
6 205 = 100/8
175 = 12.5030 180 25
7 180 178 2 193 13
8 182 178 4 186 4
84 100

© 2006 Prentice Hall, Inc. 4 – 62

 Comparison of Forecast
Error
∑ (forecast
Rounded
errors) 2
Absolute Rounded Absolute
MSE = Actual Forecast Deviation Forecast Deviation
Tonage n
with for with for
Quarter Unloaded  = .10  = .10  = .50  = .50
1
For  =
180
.10 175 5 175 5
2 = 1,558/8
168 = 194.758
176 178 10
3 159 175 16 173 14
4 For 175
= .50 173 2 166 9
5 190 173 17 170 20
6 = 1,612/8
205 =
175 201.5030 180 25
7 180 178 2 193 13
8 182 178 4 186 4
84 100
MAD 10.50 12.50

© 2006 Prentice Hall, Inc. 4 – 63

 Comparison of Forecast
n Error
100 ∑Rounded
|deviation i|/actual
Absolute Rounded
i Absolute
MAPE =
Actual i =Forecast
1 Deviation Forecast Deviation
Tonage with for with for
Quarter Unloaded  = .10 n  = .10  = .50  = .50
1
For 180
 = .10 175 5 175 5
2 168 = 45.62/8
176 = 5.70%
8 178 10
3 159 175 16 173 14
4 For 175
= .50 173 2 166 9
5 190 173 17 170 20
6 205 = 54.8/8
175 = 6.85%
30 180 25
7 180 178 2 193 13
8 182 178 4 186 4
84 100
MAD 10.50 12.50
MSE 194.75 201.50

© 2006 Prentice Hall, Inc. 4 – 64

 Comparison of Forecast
Error
Rounded Absolute Rounded Absolute
Actual Forecast Deviation Forecast Deviation
Tonnage with for with for
Quarter Unloaded  = .10  = .10  = .50  = .50
1 180 175 5 175 5
2 168 176 8 178 10
3 159 175 16 173 14
4 175 173 2 166 9
5 190 173 17 170 20
6 205 175 30 180 25
7 180 178 2 193 13
8 182 178 4 186 4
84 100
MAD 10.50 12.50
MSE 194.75 201.50
MAPE 5.70% 6.85%
© 2006 Prentice Hall, Inc. 4 – 65
 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

© 2006 Prentice Hall, Inc. 4 – 66

© 2006 Prentice Hall, Inc. 4 – 67
 Exponential Smoothing with
Trend Adjustment

Ft = (At - 1) + (1 - )(Ft - 1 + Tt - 1)

Tt = (Ft - Ft - 1) + (1 - )Tt - 1

Step 1: Compute Ft
Step 2: Compute Tt
Step 3: Calculate the forecast FITt = Ft + Tt
© 2006 Prentice Hall, Inc. 4 – 68
© 2006 Prentice Hall, Inc. 4 – 69
 Exponential Smoothing with
Trend Adjustment Example
Forecast
Actual Smoothed Smoothed Including
Month(t) Demand (At) Forecast, Ft Trend, Tt Trend, FITt
1 12 11 2 13.00
2 17
3 20
4 19
5 24
6 21
7 31
8 28
9 36
10
Table 4.1
© 2006 Prentice Hall, Inc. 4 – 70
 Exponential Smoothing with
Trend Adjustment Example
Forecast
Actual Smoothed Smoothed Including
Month(t) Demand (At) Forecast, Ft Trend, Tt Trend, FITt
1 12 11 2 13.00
2 17
3 20
4 19
5 24 Step 1: Forecast for Month 2
6 21
7 31 F2 = A1 + (1 - )(F1 + T1)
8 28
9 36
F2 = (.2)(12) + (1 - .2)(11 + 2)
10 = 2.4 + 10.4 = 12.8 units
Table 4.1
© 2006 Prentice Hall, Inc. 4 – 71
 Exponential Smoothing with
Trend Adjustment Example
Forecast
Actual Smoothed Smoothed Including
Month(t) Demand (At) Forecast, Ft Trend, Tt Trend, FITt
1 12 11 2 13.00
2 17 12.80
3 20
4 19
5 24 Step 2: Trend for Month 2
6 21
7 31 T2 = (F2 - F1) + (1 - )T1
8 28
9 36
T2 = (.4)(12.8 - 11) + (1 - .4)(2)
10 = .72 + 1.2 = 1.92 units
Table 4.1
© 2006 Prentice Hall, Inc. 4 – 72
 Exponential Smoothing with
Trend Adjustment Example
Forecast
Actual Smoothed Smoothed Including
Month(t) Demand (At) Forecast, Ft Trend, Tt Trend, FITt
1 12 11 2 13.00
2 17 12.80 1.92
3 20
4 19
5 24 Step 3: Calculate FIT for Month 2
6 21
7 31 FIT2 = F2 + T1
8 28
FIT2 = 12.8 + 1.92
9 36
10 = 14.72 units
Table 4.1
© 2006 Prentice Hall, Inc. 4 – 73
 Exponential Smoothing with
Trend Adjustment Example
Forecast
Actual Smoothed Smoothed Including
Month(t) Demand (At) Forecast, Ft Trend, Tt Trend, FITt
1 12 11 2 13.00
2 17 12.80 1.92 14.72
3 20 15.18 2.10 17.28
4 19 17.82 2.32 20.14
5 24 19.91 2.23 22.14
6 21 22.51 2.38 24.89
7 31 24.11 2.07 26.18
8 28 27.14 2.45 29.59
9 36 29.28 2.32 31.60
10 32.48 2.68 35.16
Table 4.1
© 2006 Prentice Hall, Inc. 4 – 74
 Exponential Smoothing with
Trend Adjustment Example
35 –
Actual demand (At)
30 –
Product demand

25 –

20 –

15 –

10 –
Forecast including trend (FITt)

5 –

0 – | | | | | | | | |
1 2 3 4 5 6 7 8 9
Figure 4.3
Time (month)
© 2006 Prentice Hall, Inc. 4 – 75
 Trend Projections
Fitting a trend line to historical data points
to project into the medium-to-long-range
Linear trends can be found using the least
squares technique

y^ = a + bx
^ where y= computed value of the
variable to be predicted (dependent
variable)
a= y-axis intercept
b= slope of the regression line
© 2006 Prentice Hall, Inc.
x= the independent variable 4 – 76
 Values of Dependent Variable
Least Squares Method

Actual observation Deviation7

(y value)

Deviation5 Deviation6

Deviation3

Deviation4

Deviation1
Deviation2
Trend line, y^ = a + bx

Time period Figure 4.4

© 2006 Prentice Hall, Inc. 4 – 77
 Values of Dependent Variable
Least Squares Method

Actual observation Deviation7

(y value)

Deviation5 Deviation6

Deviation3 Least squares method

minimizes the sum of the
squared errors (deviations)
Deviation 4

Deviation1
Deviation2
Trend line, y^ = a + bx

Time period Figure 4.4

© 2006 Prentice Hall, Inc. 4 – 78
© 2006 Prentice Hall, Inc. 4 – 79
© 2006 Prentice Hall, Inc. 4 – 80
 Least Squares Method
Equations to calculate the regression variables

y^ = a + bx

xy - nxy
b=
x2 - nx2

a = y - bx

© 2006 Prentice Hall, Inc. 4 – 81

 Example : The demand for
electric power is shown in
the table in megawatts for
the period 1999 to 2006. The
firm wants to predict the
2007 demand by fitting a
straight-line trend to this
data

© 2006 Prentice Hall, Inc. 4 – 82

 Least Squares Example
Time Electrical Power
Year Period (x) Demand(y) x2 xy
1999 1 74 1 74
2000 2 79 4 158
2001 3 80 9 240
2002 4 90 16 360
2003 5 105 25 525
2004 6 142 36 852
2005 7 122 49 854
∑x = 28 ∑y = 692 ∑x2 = 140 ∑xy = 3,063
x=4 y = 98.86

∑xy - nxy 3,063 - (7)(4)(98.86)

b= = = 10.54
∑x - nx
2 2 140 - (7)(4 )
2

a = y - bx = 98.86 - 10.54(4) = 56.70

© 2006 Prentice Hall, Inc. 4 – 83
 Least Squares Example
Time Electrical Power
Year Period (x) Demand x2 xy
1999 1 74 1 74
2000 2 79 4 158
2001The trend
3 line is 80 9 240
2002 4 90 16 360
2003 ^=556.70 + 10.54x 105
y 25 525
Demand in 2006 =
2004 6 142 36 852
56.70 + 10.54x8 = 141 MW
2005 7 122 49 854
x = 28 y = 692 x2 = 140 xy = 3,063
x=4 y = 98.86

xy - nxy 3,063 - (7)(4)(98.86)

b= = = 10.54
x - nx
2 2 140 - (7)(4 )
2

a = y - bx = 98.86 - 10.54(4) = 56.70

© 2006 Prentice Hall, Inc. 4 – 84
 Least Squares Example
Trend line,
160 –
150 –
y^ = 56.70 + 10.54x
140 –
Power demand

130 –
120 –
110 –
100 –
90 –
80 –
70 –
60 –
50 –
| | | | | | | | |
1999 2000 2001 2002 2003 2004 2005 2006 2007
Year
© 2006 Prentice Hall, Inc. 4 – 85
 Least Squares Requirements

1. We always plot the data to ensure a

linear relationship
2. We do not predict time periods far
beyond the database
3. Deviations around the least
squares line are assumed to be
random

© 2006 Prentice Hall, Inc. 4 – 86

 Seasonal Variations In Data
The multiplicative seasonal model can
modify trend data to accommodate
seasonal variations in demand

1. Find average historical demand for each season

2. Compute the average demand over all seasons
3. Compute a seasonal index for each season
4. Estimate next year’s total demand
5. Divide this estimate of total demand by the
number of seasons, then multiply it by the
seasonal index for that season

© 2006 Prentice Hall, Inc. 4 – 87

 Example :
A distributor for Dell laptop computers
wants to develop monthly indices for
sales. Data by month is available for
the period 2003 to 2005. Determine the
seasonal index for 2006 month-wise.

© 2006 Prentice Hall, Inc. 4 – 88

© 2006 Prentice Hall, Inc. 4 – 89
 Seasonal Index Example
Demand Average Average Seasonal
Month 2003 2004 2005 2003-2005 Monthly Index
Jan 80 85 105 90 94
Feb 70 85 85 80 94
Mar 80 93 82 85 94
Apr 90 95 115 100 94
May 113 125 131 123 94
Jun 110 115 120 115 94
Jul 100 102 113 105 94
Aug 88 102 110 100 94
Sept 85 90 95 90 94
Oct 77 78 85 80 94
Nov 75 72 83 80 94
Dec 82 78 80 80 94
© 2006 Prentice Hall, Inc. 4 – 90
 Seasonal Index Example
Demand Average Average Seasonal
Month 2003 2004 2005 2003-2005 Monthly Index
Jan 80 85 105 90 94 0.957
Feb 70 85 85 80 94
Mar 80 93 average
82 85 monthly demand
2003-2005 94
Seasonal90index95= 115
Apr 100 94
average monthly demand
May 113 125 131 123 94
= 90/94 = .957
Jun 110 115 120 115 94
Jul 100 102 113 105 94
Aug 88 102 110 100 94
Sept 85 90 95 90 94
Oct 77 78 85 80 94
Nov 75 72 83 80 94
Dec 82 78 80 80 94
© 2006 Prentice Hall, Inc. 4 – 91
 Seasonal Index Example
Demand Average Average Seasonal
Month 2003 2004 2005 2003-2005 Monthly Index
Jan 80 85 105 90 94 0.957
Feb 70 85 85 80 94 0.851
Mar 80 93 82 85 94 0.904
Apr 90 95 115 100 94 1.064
May 113 125 131 123 94 1.309
Jun 110 115 120 115 94 1.223
Jul 100 102 113 105 94 1.117
Aug 88 102 110 100 94 1.064
Sept 85 90 95 90 94 0.957
Oct 77 78 85 80 94 0.851
Nov 75 72 83 80 94 0.851
Dec 82 78 80 80 94 0.851
© 2006 Prentice Hall, Inc. 4 – 92
 Seasonal Index Example
Demand Average Average Seasonal
Month 2003 2004 2005 2003-2005 Monthly Index
Jan 80 85 105 90 94 0.957
Feb 70 85 Forecast
85 for802006 94 0.851
Mar 80 93 82 85 94 0.904
Apr 90Expected
95 115annual demand
100 = 1,200
94 1.064
May 113 125 131 123 94 1.309
Jun 110 115 120 1,200 115 94 1.223
Jul
Jan
100 102 113 12
x .957 = 96 94
105 1.117
Aug 88 102 110 100 94 1.064
1,200
Sept 85 Feb
90 95 x90.851 = 85 94 0.957
Oct 77 78 85 12 80 94 0.851
Nov 75 72 83 80 94 0.851
Dec 82 78 80 80 94 0.851
© 2006 Prentice Hall, Inc. 4 – 93
 Seasonal Index Example
2006 Forecast
140 – 2005 Demand
130 – 2004 Demand
2003 Demand
120 –
Demand

110 –
100 –
90 –
80 –
70 –
| | | | | | | | | | | |
J F M A M J J A S O N D
Time
© 2006 Prentice Hall, Inc. 4 – 94
 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

© 2006 Prentice Hall, Inc. 4 – 113

 Monitoring and Controlling
Forecasts

Tracking RSFE
signal =
MAD

∑(actual demand in
period i -
forecast demand
Tracking in period i)
signal = ∑|actual - forecast|/n)

© 2006 Prentice Hall, Inc. 4 – 114

 Tracking Signal
Signal exceeding limit
Tracking signal
Upper control limit
+

Acceptable
0 MADs range

– Lower control limit

Time

© 2006 Prentice Hall, Inc. 4 – 115

© 2006 Prentice Hall, Inc. 4 – 116
 Tracking Signal Example
Cumulative
Absolute Absolute
Actual Forecast Forecast Forecast
Qtr Demand Demand Error RSFE Error Error MAD

1 90 100 -10 -10 10 10 10.0

2 95 100 -5 -15 5 15 7.5
3 115 100 +15 0 15 30 10.0
4 100 110 -10 -10 10 40 10.0
5 125 110 +15 +5 15 55 11.0
6 140 110 +30 +35 30 85 14.2

© 2006 Prentice Hall, Inc. 4 – 117

 Tracking Signal Example
Cumulative
Tracking Absolute Absolute
Actual Signal
Forecast Forecast Forecast
Qtr (RSFE/MAD)
Demand Demand Error RSFE Error Error MAD

1 90-10/10
100= -1 -10 -10 10 10 10.0
2 95
-15/7.5
100= -2 -5 -15 5 15 7.5
3 115 0/10
100= 0 +15 0 15 30 10.0
4 100-10/10
110= -1 -10 -10 10 40 10.0
5 125
+5/11110
= +0.5+15 +5 15 55 11.0
6 140
+35/14.2
110= +2.5
+30 +35 30 85 14.2

The variation of the tracking signal

between -2.0 and +2.5 is within acceptable
limits
© 2006 Prentice Hall, Inc. 4 – 118
 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

© 2006 Prentice Hall, Inc. 4 – 119

 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
© 2006 Prentice Hall, Inc. 4 – 120
 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

© 2006 Prentice Hall, Inc. 4 – 121

 Thank you

© 2006 Prentice Hall, Inc. 4 – 123