LOGISTICS III

CHAPTER 8
Forecasting Supply Chain Requirements

Department of Transport and Supply Chain Management

NATURE OF FORECASTING
Forecasting demand levels provides the basic inputs for the planning and control of
all functional areas, including:

Logistics:
Inventory levels, Transportation, Warehouse space, Supplier lead times
Marketing:
Consumer demand, Market analysis.
Production:
Material requirements, Manufacturing demand, Labour/Equipment.
Finance:
Capital/Operational budgets

Logistics forecasting is concerned with the spatial as well as temporal

nature of demand.

This means logistics has both space and time dimensions. That is, the logistician
must know where demand volume will take place as well as when it will take place.

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Characteristics of Good Forecasting

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 Types of Demand
1. Regular Demand When demand is "regular," it will
typically be represented by one of the
general patterns, including trend and
seasonal components.
– That is, demand patterns can usually
be decomposed into trend, and
seasonal components.

When demand for items is intermittent,

because of a high degree of uncertainty
2. Lumpy Demand as to when and at what level demand will
occur, the time series forecast is said to be
lumpy, or irregular.
This demand pattern is often found in
products that are phasing in or out of the
product line, with few customers, divided
among many stocking locations.
– Such demand patterns are
LOGISTICS 3 CHAPTER 6 4
particularly difficult to forecast.
Independent Demand and Dependant Demand for inventories
3. Independent Demand
An inventory of an item is said to be independent demand when the demand for such
an item is not dependant upon the demand for another item.
Also, When demand is generated from many customers, most of which individually
purchase only a small fraction of the total volume, demand is said to be independent.
When demand is independent and random, statistical short-term forecasting
techniques work well.
4. Dependent or Derived Demand
• When demand is derived from the requirements specified in a production
schedule, the demand is said to be dependent.
– The number of new tyres to order from a supplier is a multiple of the number of
new cars an automaker will build (1 vehicle = 5 tyres).
Derived demand patterns are highly biased and not random.
• Understanding these biases replaces the need for forecasting, since demand
is known for sure.
Forecasting through the derived demand techniques results in perfect
forecasts to the extent that end-product demand is known for sure.
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 FORECASTING METHODS
Forecasting can be categorised into the three groups:
Qualitative; Historical; Causal
Qualitative methods are those that
use judgment, intuition, surveys, or
comparative techniques to produce
estimates about the future.
• The information relating to the factors
affecting the forecast are typically non-
quantitative, soft, and subjective.
• The non-scientific nature of the methods
makes them difficult to standardise and
validate for accuracy.
• However, these methods may be all that is
available when trying to predict the
success of new products, government
policy changes, or the impact of new
technology.
• They are likely to be methods of choice for
medium- to long-range forecasting.
Historical methods are used when
historical data is available and the trend
and seasonal variations are stable and
well defined for the short term.
• The basic assumption is that the future time
pattern will be a replication of the past.
• The quantitative nature of the time series
encourages the use of mathematical and
statistical models as the primary forecasting
tools.
• The accuracy that can be achieved for
forecasted periods of less than six months is
usually quite good.
• These models track change by being updated as
new data become available.
• If the change is rapid, the models do not
signal the change until after it has occurred.
– Because of this, projections by these models
are said to lag fundamental changes in the
time series and are weak in signaling
turning points before they take place.
6
 Causal Methods

Causal models of forecasting are built on the assumption that the level of
the forecast variable is derived from the level of other related variables.

– If customer service is known to have a positive effect on sales, then by knowing

the level of customer service provided, the level of sales can be projected.

– When good cause-and-effect relationships can be described, causal models

can be good at anticipating major changes in the time series and forecasting
accurately over the medium- to long-range period.

• A major problem with a casual forecasting is that truly causal variables are often
difficult to find.

7
Simple Moving Average Technique
Apply the Simple Moving Average Technique (4-week moving average) to determine the
forecast demand for week number 6
WEEK FORECAST ACTUAL •Only work with “Actual Demand” history
DEMAND
DEMAND because it is more accurate than the
1 100 100 forecasted data.
2 100 90
•We are required to determine the demand
3 98 140 for week six by only considering the data for
4 108 130 the most recent four weeks (disregard week
5 115 132 one).
6 ?
•Add the total actual demand for the past
four weeks = 492

Note: •Divide the total actual demand by the

A 5-week moving average
will use the data of 5 weeks
A 2-week moving average
will use the data of 2 weeks
number of weeks considered, namely four
weeks:
492 / 4 = 123 units forecasted for week six

8
Weighted Moving Average Technique
A more sophisticated and accurate technique is the Weighted Moving Average Technique
which is based on the assumption that the latest (newest) data is the most accurate indicator
of what will happen in the future. The latest data must thus carry more weight than old data.
EXAMPLE: Apply the Weighted Moving Average Technique (4-week moving average) to
determine the forecast demand for week number 6 WEEK FORECAST ACTUALDEMAND
DEMAND
Again, we only consider the last four weeks as stated in
the question (4-week moving average). 1 100 100
Apply a weighting factor, from 4 to 1 to the actual 2 100 90
demand, starting from the latest demand, which is
week five. 3 98 140
Multiply the actual demand with the weighting factor to 4 108 130
determine the weighted demand.
5 115 130
Determine the totals for the Weighting Factors and 6 ?
the total Weighted demand
WEEK ACTUAL WEIGHTING WEIGHTED
DEMAND FACTOR DEMAND

2 90 x1 90
Divide the total Weighted demand by the total
Weighting Factor 3 140 x2 280

1280
4 130 x3 390
10 = 128 units forecasted for week 6 5 130 x4 520
10 1280
9
 Exponential Smoothing technique

• A useful technique for short-term forecasting.

• It requires a minimum amount of data to be retained.
• Is the most accurate among competing models and is self-adapting to fundamental
changes in the forecasted data.

• Exponential Smoothing is reduced to a simple expression involving only the forecast

and actual demand from the most recent period.

• FORMULA:
Ft + 1 = α At + (1 - α) Ft
or
New forecast = α x (previous actual demand) + (1 – α )x(previous forecast)

• Where α is a weighting factor, commonly called the exponential smoothing

constant, with values between 0 and 1.
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 Example: Exponential Smoothing

• A demand of 1 000 units was Forecasted for the current month.

• The Actual demand for the current month is 950 units.
• The value of the smoothing constant (alpha) is = 0.3

• The expected forecast for the next month, would be:

Ft + 1 = α At + (1 - α) Ft
or
New forecast = α x (previous actual demand) + (1 – α )x(previous forecast)

• New forecast = 0.3(950) + (1- 0.3)(1,000)

• New forecast = (0.3 x 950) + (0.7 x 1,000) = 985 units

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4-32
Smoothing: Summary

Moving Exponential
Result
Average Smoothing

Short Large Very Responsive

Averaging Period Very Nervous

Long Small Unresponsive

Averaging Period Stable

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 Smoothing Effects

16
14 • • •
Historical Demand

• • • • • •
and Forecasts

12
10 • • • • • •
8 • • • • • •
6 • • •
4 • • Actual demand
Exponentially smoothed demand, = 0.2
2 Exponentially smoothed demand, = 0.8

-24 -20 -16 -12 -8 -4 0

LOGISTICS 3 CHAPTER 6 13
Time
Measuring Forecast Error

The overall accuracy of a forecast can be determined by comparing

the forecasted values with the actual demand.
If Ft denotes the forecast in period t, and At denotes the actual
demand in period t, the Forecast error (or deviation)is defined as:
Forecast error = Actual demand – Forecast demand
= Ft – At

One of the popular techniques for measuring forecast error is the

Mean Absolute Deviation (MAD)

MAD = SUM(Actual – Forecast)

n
Or
MAD = SUM(Deviations)
n
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Determining the Mean Absolute Deviation (MAD)
MAD, as a measure of overall forecast error, by testing two values for α.

During the past 8 quarters, the Port of Durban has unloaded quantities of grain from ships.
Test by means of exponential smoothing to see how well the technique works in predicting
tonnage unloaded. The port manager estimates that the forecast for grain unloaded in the
first quarter was 175 tons. Two values of α are to be examined: α = 0.1 and α = 0.5

FOR α = 0.1 ACTUA

L Exponential Smooting Forecast Forecast with
QUART DEMA With α
ER ND = 0,1 α= 0,1

1 180 α At + (1 - α) Ft 175
2 168 0.1 x (180)+(1-0.1) x 175 = 175,50
3 159
4 175
5 190
6 205
7 180
8 182
9 ? 15
 ACTUAL Exponential Smooting Forecast Forecast with
QUARTE DEMAN
R D With α = 0,1 α= 0,1
1 180 α At + (1 - α) Ft 175
2 168 0.1 x (180)+(1-0.1) x 175 = 175,50
3 159 174,75
4 175 173,18
5 190 173,36
6 205 175,02
7 180 178,02
8 182 178,22
9 ? 178,60

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 Forecast
ACTUAL Exponential Smooting Forecast with
QUARTE DEMAN
R D With α = 0,5 α= 0,5
1 180 α At + (1 - α) Ft 175

2 168 0.5 x (180)+(1-0.5) x 175 = 177,50

3 159
4 175
5 190
6 205
7 180
8 182
9 ?

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 Absolute Forecast Absolute
ACTUAL Forecast with Deviation with Deviation
For α For α
QUARTER DEMAND = 0,1 For α =0,1 α = 0,5 = 0,5
1 180 175 5,00 175 5,00
2 168 175,50 7,50 177,50 9,50
3
4
5
6
7
8
SUM SUM

Note: Use absolute values with no +

or – (only differences)
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 Absolute Forecast Absolute
ACTUAL Forecast with Deviation with Deviation
For α For α
QUARTER DEMAND = 0,1 For α =0,1 α = 0,5 = 0,5
1 180 175 5,00 175 5,00
2 168 175,50 7,50 177,50 9,50
3 159 174,75 15,75 172,75 13,75
4 175 173,18 1,82 165,88 9,13
5 190 173,36 16,64 170,44 19,56
6 205 175,02 29,98 180,22 24,78
7 180 178,02 1,98 192,61 12,61
8 182 178,22 3,78 186,30 4,30
SUM 82,46 SUM 98,63

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MAD : For α =0,1 For α =0,1 For α = 0,5

SUM(Deviations) 82,46 98,63

n 8 8

= 10,31 = 12,33

The preferred MAD

is 0,1

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LOGISTICS III
CHAPTER 8
END

Department of Transport and Supply Chain Management