Demand Forecasting

Definition
• Demand forecasting is the scientific and analytical
estimation of demand for a product (service) for a
particular period of time.
• It is the process of determining how much of what
products is needed when and where.
 Criteria for a good forecasting
Accuracy
Simplicity
Economy
Availability
Durability
 Importance demand forecasting :-
• Demand forecasting is dependent on assumptions.
When the assumptions are reliable, then the forecast is
useful to business firms.
1)Narrow down the gap : Demand forecasting helps
the producer to take decisions regarding output thus
narrows down the gap between demand and supply.
• 2)Maintaining regular supply : Demand forecasting
helps in maintaining regular supply of final products in
market.
• 3)To take decisions : Demand forecasting enables a
firm to take decisions regarding purchasing of raw
material, Level of output to be produced, no. of
persons to be employed, etc.
• 4)helps in formulating suitable production and output
planning : Demand forecasting helps in formulating suitable
production and output planning to avoid the problems of
overproduction or underproduction.
• 5)To maintain adequate inventory : Production planning
helps a firm to maintain adequate inventory and thus reduce
chances of shortage or misuse of resources.
• 6)Assemble and utilize the required finances : Demand
forecasting enables a firm to assemble and utilize the
required finances, on reasonable terms at right time.
• 7)Deciding sales target and setting incentives : Demand
forecasting assists in deciding on sales target and setting
incentives for marketing & sales department.
• 8)Optimal utilisation of scare resources : For multiple
product firms it becomes essential to take decisions for
optimal utilization of scare resources.
Methods of forecasting
 QUALITATIVE
• Qualitative techniques mainly use subjective
assessment to forecast. there are situations in
economics and business field where either data are not
available or data are not relevant.
• E:g for the estimate of cost of production of a new
product or to forecast the demand of a new product,
historical data are not available. In such situation
instead of mathematical rule, knowledge, information
and expert opinion are needed. Therefore qualitative
techniques of forecasting are those which rely on
expert opinion, opinion of sales executive and
subjective assessment of the situation
 Quantitative techniques

• Quantitative techniques of forecasting are based

on time series data or historical data and past and
present statistical data. Statistical techniques are
essential in clarifying relationship and analysis of
approximate demand.
 Consumers’ Survey

 Buyers are asked about future buying intentions of

products, brand preferences and quantities of
purchase, response to an increase in the price, or
comparison with competitor’s products.

Census Method: Involves contacting each and every

buyer. Census survey is applied when the potential
buyer are living in a limited region or area.
Sample Method: Involves only representative
sample of buyers. It is less costly and less time
consuming in comparison to census method.
 Limitations :

1)Probable buyers themselves may not be aware of

their demand.

2)The information so collected may be less authentic.

3)The purchasers may change their purchase plans.

4)The method is useful when the industrial unit are

the buyers ,This is because they generally have
definite plans for their future purchase.
 Sales Force opinion /Collective Opinion method

 The idea behind this method is sales persons are in

direct contact with the customers. Salespersons are
asked about estimated sales targets in their respective
sales territories in a given period of time . the estimates
of all the salesmen are then collected to estimate the
total demand in future. the estimates of salesmen are
reviewed to eliminate the bias of optimism and
pessimism on the part of salesmen. Factors like
proposed changes in price, product design,
advertisement programmes, purchasing power. Etc are
also taken into account while making final estimate.
 Advantages:
1. It is simple method involving no mathematical calculations
2. It is based on the first hand knowledge of salesman and the
persons directly connected with sales.
3. This method is particularly useful for the sales forecast of
new products.

Limitation
1. It is subjective approach. thus possibility of over estimates.
2. Suitable for short-term forecast only .
3. All salesmen may not be good estimator.
 Expert opinion
• In this method , a firm collects the information from
Outside experts, dealers ,and distributers, etc. The
expert opinion may be the joint outcome of specially
conducted survey among buyers and suppliers.
• Advantages 1. The main advantages of this
method is that the forecast can be made quickly and at
cheaper rates. 2. Different point of view are taken into
consideration. since the services of expert are used the
method become more accurate and reliable because they
have better knowledge of the market and changes.
• Disadvantages : this method fail when forecasting is
for a very long period.
 Market experiment
• Market experiment technique involve examining
actual consumer behaviours under controlled
market condition. under this method, the firm
select some representative market in different
cities or area having similar characteristic such as
income, population. Under this techniques,
generally one factor affecting the demand is varied
and other are kept constant and observation are
made. e;g a firm may vary the price of the product
while keeping other market condition stable. Based
on these generalized future demand is estimated.
 limitations
1. Expensive and time consuming.
2. Difficult to planning what factor. Should be taken
to be constant what factor should be regarded as
variable.
3. Difficult to satisfy the homogeneity of market.
4. Skill is required o design market research studied
to determine the involved relationship.
• Quantitative methods/statistical
methods:
• use mathematical or simulation models
based on historical demand or
relationships between variables.
• Trend Projection
• Regression analysis
• Leading indicator/ Barometric techniques
• Simultaneous equation method
 TREND PROJECTION
• A firm which has been in exist for some time, will
have accumulated considerable data on sales
pertaining to different time period. Such data when
arranged chronologically gives time series. The time
series relating to sales represent the past pattern of
effective demand for a particular product. Such data
can be used to project the trend for future data.
The trend can be estimated by using any one of the
following methods:
• (a) The Least Square Method.
• (b) The Graphical Method,
1) least square method : we use following gerneral
equation.
• Y=a + bx
Where y= sales
a and b are the value which we have to estimate
from data.
• X = year no. for which we need to forecast.
• 2) Graphical method : old value of sales for different
areas are plotted on a graph and a free hand curve
is drawn passing through as many point as possible
and the direction of free hand curve shown trend.
• Advantages : it is very simple and quite inexpensive
method.
• The data required for this method is easily available
from the firms own record.
• Limitation: it is based on assumption that the past
rate of change of the variable under the study will
continue in future.
• This method cannot usually explain the turning
point of a business cycle. that is cause and effect
relationship.
• It need huge store data.
• Regression analysis: this is a very common method
of forecasting demand. Under this method a
relationship is established between quantity
demanded (dependent variable and independent
variables such as income, price of the related
goods by using regression technique
• E:g In linear regression , the relationship between
dependent variable (e.g. demand) and independent
variable (e.g. time) can be worked out with a given
equation Y = a + bx ,
• (where Y is demand and x is time. a, b, are positive
constants). Here a firm can find out estimated
demand for future
 limitation
• This technique requires more data than other
method.
• This is totally inappropriate for generating seasonal
forecasts.
• It is based on certain assumption that is
A) the dependent variable has a linear relation with
independent variables.
B) variation remain constant over the range.
 Barometric Technique/leading indicator method

• A barometer is an instrument of measuring change.

This method is based on the concept that “the
future can be predicted from certain happenings in
the present.”
• In other words, barometric techniques are based on
the idea that certain events of the present can be
used to predict the directions of change in the
future. This is accomplished by the use of economic
and statistical indicators which serve as barometers
of economic change.
• Generally three type of indicators .
1.Leading Series,
2.Coincident or Concurrent Series and
3.Lagging Series:
 Leading Series,
• These indicators as the name suggest move ahead of the
happening. In other words when an incident that has
already happened is used to predict the future happening,
then the already happened incident would act as a leading
indicator.
• E:g the data relating to working women would act as a
leading indicator for the demand of working women
hostels.
 (b) Coincident or Concurrent Series:
• These are those indicators that take place simultaneously
to the happening. These coincident indicators would
include data relating to people employed in non-
agricultural sectors, production of the industrial sector,
personal income etc. These indicators too depict the state
of the economy.
• For example if the data related to industrial production
show strong numbers, then it shows that the economy is
performing well.
• On the other hand disappointing industrial production
numbers would reflect poor state of the economy.
 The Lagging Series:
• The lagging series are those which take place after some
time lag with respect to the business cycle. Lagging
indicators: These indicators are those which take place
after the happening. These indicators are essential to
understand how the economy would shape up in the future
because these follow the economic cycle.
• In other words these indicators show the way to the future.
Hence lagging indicators are those which are the most
important ones and are extremely useful in predicting the
future economic events.
• E: g Inflation and data relating to unemployment levels are
the top indicators that help in understanding or analyzing
the performance of the economy.
 Simultaneous equation method
• This method of demand forecasting involve development
of a complete model which can explain the bahaviour of all
the variables which the firm can control.
• In such a model, the number of equations is equal to the
number of variables. After the model is developed, it is
estimated through some appropriate method such as the
least square method . The model is then solved for each of
the variable.
• e:g the sale of cigarettes depend not only on internal
factors such as cigarette price and advertisement outlay,
but also on external factor such as consumer income.