Jain College of Engineering and Research, Belagavi
Department of MBA
Demand
Forecasting
Concept, Significance & Methods of Demand
Forecasting
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Introduction
An organization faces several internal and external risks, such as high competition, failure of
technology, labor unrest, inflation, recession, and change in government laws.
Therefore, most of the business decisions of an organization are made under the conditions
of risk and uncertainty.
An organization can lessen the adverse effects of risks by determining the demand or sales
prospects for its products and services in future.
Demand forecasting is a systematic process that involves anticipating the demand for the
product and services of an organization in future under a set of uncontrollable and
competitive forces.
Definition
According to Evan J. Douglas, “Demand estimation (forecasting) may be defined as a
process of finding values for demand in future time periods.”
In the words of Cundiff and Still, “Demand forecasting is an estimate of sales during a
specified future period based on proposed marketing plan and a set of particular
uncontrollable and competitive forces.”
i. Fulfilling objectives:
Significance of
Demand Forecasting: ii. Preparing the budget:
iii. Stabilizing employment
and production:
iv. Expanding organizations:
v. Taking Management
Decisions:
vi. Evaluating Performance:
vii. Helping Government:
I. FULFILLING OBJECTIVES:
Implies that every business unit starts with certain pre-decided objectives. Demand forecasting
helps in fulfilling these objectives. An organization estimates the current demand for its products
and services in the market and move forward to achieve the set goals.
For example, an organization has set a target of selling 50, 000 units of its products. In such a case,
the organization would perform demand forecasting for its products. If the demand for the
organization’s products is low, the organization would take corrective actions, so that the set
objective can be achieved.
II. PREPARING THE BUDGET:
Plays a crucial role in making budget by estimating costs and expected revenues. For instance, an
organization has forecasted that the demand for its product, which is priced at Rs. 10, would be 10,
00, 00 units. In such a case, the total expected revenue would be 10* 100000 = Rs. 10, 00, 000. In
this way, demand forecasting enables organizations to prepare their budget.
III. STABILIZING EMPLOYMENT AND
PRODUCTION:
Helps an organization to control its production and recruitment activities. Producing according to
the forecasted demand of products helps in avoiding the wastage of the resources of an
organization. This further helps an organization to hire human resource according to requirement.
For example, if an organization expects a rise in the demand for its products, it may opt for extra
labor to fulfill the increased demand.
IV. EXPANDING ORGANIZATIONS:
Implies that demand forecasting helps in deciding about the expansion of the business of the
organization. If the expected demand for products is higher, then the organization may plan to
expand further. On the other hand, if the demand for products is expected to fall, the organization
may cut down the investment in the business.
V. TAKING MANAGEMENT DECISIONS:
Helps in making critical decisions, such as deciding the plant capacity, determining the requirement
of raw material, and ensuring the availability of labor and capital.
VI. EVALUATING PERFORMANCE:
Helps in making corrections. For example, if the demand for an organization’s products is less, it may
take corrective actions and improve the level of demand by enhancing the quality of its products or
spending more on advertisements.
VII. HELPING GOVERNMENT:
Enables the government to coordinate import and export activities and plan international trade.
OBJECTIVES OF DEMAND FORECASTING:
i. Short-term Objectives: Include the following:
a. Formulating production policy:
Helps in covering the gap between the demand and supply of the product. The demand
forecasting helps in estimating the requirement of raw material in future, so that the regular
supply of raw material can be maintained. It further helps in maximum utilization of resources as
operations are planned according to forecasts. Similarly, human resource requirements are
easily met with the help of demand forecasting.
b. Formulating price policy:
Refers to one of the most important objectives of demand forecasting. An organization sets
prices of its products according to their demand. For example, if an economy enters into
depression or recession phase, the demand for products falls. In such a case, the organization
sets low prices of its products.
c. Controlling sales:
Helps in setting sales targets, which act as a basis for evaluating sales performance. An
organization make demand forecasts for different regions and fix sales targets for each region
accordingly.
d. Arranging finance:
Implies that the financial requirements of the enterprise are estimated with the help of demand
forecasting. This helps in ensuring proper liquidity within the organization.
ii. Long-term Objectives: Include the following:
a. Deciding the production capacity:
Implies that with the help of demand forecasting, an organization can determine the size of the
plant required for production. The size of the plant should conform to the sales requirement of
the organization.
b. Planning long-term activities:
Implies that demand forecasting helps in planning for long term. For example, if the forecasted
demand for the organization’s products is high, then it may plan to invest in various expansion
and development projects in the long term.
Steps of Demand Forecasting:
1 2 3 4 5
Setting the Determining Time Selecting a Method Collecting Data Estimating Results
Objective Period for Demand
Forecasting
Methods of
Demand
Forecasting
Methods of Demand Forecasting
Different organisations rely on different techniques to forecast demand for their products or services for a future
time period depending on their requirements and budget.
Methods of demand forecasting are broadly categorised into two types. Let us discuss these techniques &
methods of demand forecasting in detail:
1. Qualitative Techniques
Survey Methods
2. Quantitative Techniques
Time Series Analysis
Smoothing Techniques
Barometric Methods
Econometric Methods
Qualitative Techniques
Qualitative techniques rely on collecting data on the buying behaviour of consumers from experts or through conducting surveys
in order to forecast demand.These techniques are generally used to make shortterm forecasts of demand.
Qualitative techniques are especially useful in situations when historical data is not available; for example, introduction of a new
product or service. These techniques are based on experience, judgment, intuition, conjecture, etc.
Survey Methods
Survey methods are the most commonly used methods of forecasting demand in the short run. This method relies on the future
purchase plans of consumers and their intentions to anticipate demand.
Thus, in this method, an organization conducts surveys with consumers to determine the demand for their existing products and
services and anticipate the future demand accordingly. The two types of survey methods are explained as follows:
Complete enumeration survey: This method is also referred to as the census method of demand forecasting. In this method,
almost all potential users of the product are contacted and surveyed about their purchasing plans.
Based on these surveys, demand forecasts are made. The aggregate demand forecasts are attained by totalling the probable
demands of all individual consumers in the market.
Sample survey: In this method, only a few potential consumers (called sample) are selected from the market and surveyed. In
this method, the average demand is calculated based on the information gathered from the sample.
Opinion poll
Opinion poll methods involve taking the opinion of those who possess knowledge of market trends, such as sales
representatives, marketing experts, and consultants.
The most commonly used opinion polls methods are explained as follows:
Expert opinion method: In this method, sales representatives of different organisations get in touch with
consumers in specific areas. They gather information related to consumers’ buying behaviour, their reactions
and responses to market changes, their opinion about new products, etc.
Delphi method: In this method, market experts are provided with the estimates and assumptions of forecasts
made by other experts in the industry. Experts may reconsider and revise their own estimates and assumptions
based on the information provided by other experts.
Market studies and experiments: This method is also referred to as market experiment method. In this
method, organisations initially select certain aspects of a market such as population, income levels, cultural
and social background, occupational distribution, and consumers’ tastes and preferences.
Quantitative Techniques
Quantitative techniques for demand forecasting usually make use of statistical tools. In these techniques, demand is
forecasted based on historical data.
These methods are generally used to make long-term forecasts of demand. Unlike survey methods, statistical
methods are cost effective and reliable as the element of subjectivity is minimum in these methods. Let us discuss
different types of quantitative methods:
Time series analysis or trend projection method is one of
the most popular methods used by organisations for the
prediction of demand in the long run. The term time series
refers to a sequential order of values of a variable (called
Time Series trend) at equal time intervals.
Analysis
Using trends, an organisation can predict the demand for
its products and services for the projected time. There are
four main components of time series analysis that an
organisation must take into consideration while forecasting
the demand for its products and services. These
components are:
Trend component: The trend component in time series analysis accounts for the
gradual shift in the time series to a relatively higher or lower value over a long period
of time.
Cyclical component: The cyclical component in time series analysis accounts for the
regular pattern of sequences of values above and below the trend line lasting more
than one year.
Seasonal component: The seasonal component in time series analysis accounts for
regular patterns of variability within certain time periods, such as a year.
Irregular component: The irregular component in time series analysis accounts for a
short term, unanticipated and non-recurring factors that affect the values of the time
series.
Smoothing Techniques
In cases where the time series lacks significant trends, smoothing techniques can be used for
demand forecasting. Smoothing techniques are used to eliminate a random variation from the
historical demand.
This helps in identifying demand patterns and demand levels that can be used to estimate future
demand. The most common methods used in smoothing techniques of demand forecasting are
simple moving average method and weighted moving average method.
The simple moving average method is used to calculate the mean of average prices over a period of
time and plot these mean prices on a graph which acts as a scale.
For example, a five-day simple moving average is the sum of values of all five days divided by five.The
weighted moving average method uses a predefined number of time periods to calculate the
average, all of which have the same importance.
For example, in a four-month moving average, each month represents 25% of the moving average.
Barometric Methods
Barometric methods are used to speculate the future trends based on current developments.
This methods are also referred to as the leading indicators approach to demand forecasting.
Many economists use barometric methods to forecast trends in business activities. The basic
approach followed in barometric methods of demand analysis is to prepare an index of
relevant economic indicators and forecast future trends based on the movements shown in
the index.
The barometric methods make use of the following indicators:
Leading indicators: When an event that has already occurred is considered to predict the
future event, the past event would act as a leading indicator.
For example, the data relating to working women would act as a leading indicator for the
demand of working women hostels.
Coincident indicators: These indicators move simultaneously with the current event.
For example, a number of employees in the non-agricultural sector, rate of
unemployment, per capita income, etc., act as indicators for the current state of a
nation’s economy.
Lagging indicators: These indicators include events that follow a change. Lagging
indicators are critical to interpret how the economy would shape up in the future. These
indicators are useful in predicting the future economic events.
For example, inflation, unemployment levels, etc. are the indicators of the performance of
a country’s economy.
Econometric Methods
Econometric methods make use of statistical tools combined with economic
theories to assess various economic variables (for example, price change,
income level of consumers, changes in economic policies, and so on) for
forecasting demand.
The forecasts made using econometric methods are much more reliable than
any other demand forecasting method. An econometric model for demand
forecasting could be single equation regression analysis or a system of
simultaneous equations. A detailed explanation of regression analysis is
given in the next section.
Regression Analysis: The regression analysis method for demand
forecasting measures the relationship between two variables. Using
regression analysis a relationship is established between the dependent
(quantity demanded) and independent variable (income of the consumer,
price of related goods, advertisements, etc.).
For example, regression analysis may be used to establish a relationship
between the income of consumers and their demand for a luxury product.
In other words, regression analysis is a statistical tool to estimate the
unknown value of a variable when the value of the other variable is known.
After establishing the relationship, the regression equation is derived
assuming the relationship between variables is linear.
The formula for a simple linear regression is as follows:
Y =a + bX
Where Y is the dependent variable for which the demand needs to be forecasted; b is
the slope of the regression curve; X is the independent variable; and a is the Y-
intercept. The intercept a will be equal to Y if the value of X is zero.
JAIN COLLEGE OF ENGINEERING AND RESEARCH
DEPARTMENT OF MBA
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