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I hope you'll keep in mind that economic forecasting is far from a perfect science. If recent history's any guide, the experts have some explaining to do about what they told us had to happen but never did.

Ronald Reagan, 1984

8-1

What’s Forecasted in the Supply Chain?

8-3

Some Forecasting Method Choices
•Historical projection
Moving average
Exponential smoothing
•Causal or associative
Regression analysis
•Qualitative
Surveys
Expert systems or rule-based
•Collaborative
8-2
8-4
PLANNING
PLANNING
ORGANIZING
ORGANIZING
CONTROLLING
CONTROLLING
Inventory Strategy
Inventory Strategy
• • Forecasting
Forecasting
Transport Strategy
Transport Strategy
• •
Inventory decisions
Inventory decisions
• •
Transport fundamentals
Transport fundamentals
• •
• •
Transport decisions
Transport decisions
Customer
Customer
scheduling decisions
scheduling decisions
service goals
service goals
• •
Storage fundamentals
Storage fundamentals
• •
The product
The product
• •
Storage decisions
Storage decisions
• •
Logistics service
Logistics service
• •
Ord. proc. & info. sys.
Ord. proc. & info. sys.
Location Strategy
Location Strategy
• •
Location decisions
Location decisions

• •

The network planning process

The network planning process

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Typical Time Series Patterns:

Random

250

200

150

100

50

0

Actual sales
Average sales
0
5
10
15
20
25

Time

 8-5 Typical Time Series Patterns: Random with Trend 250 200 Actual sales Average sales Sales 150 100 50 0 0 5 10 15 20 25 Time 8-6

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Typical Time Series Patterns:

Random with Trend & Seasonal
800
700
600
500
400
300
200
Actual sales
Trend in sales
100
Sm oothed trend and seasonal sales
0
0
10
20
30
40
Tim e
8-7
Typical Time Series Patterns:
Lumpy
Time
8-8
Sales

Is Time Series Pattern Forecastable?

Whether a time series can be reasonably forecasted often depends on the time series’ degree of variability. Forecast a regular time series, but use other techniques for lumpy ones. How to tell the difference:

Rule A time series is lumpy if

X 3σ

where

X = mean of the series

σ = standard deviation of series,

regular, otherwise.

Moving Average

Basic formula

MA =

where

1

n

i

t

=+− t 1

n

A

i

 i = time period t = current time period

8-9

n = length of moving average in periods A i = demand in period i

8-10

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Example 3-Month Moving Average Forecasting

Month, i

.

.

.

Demand for

month, i

.

.

.

Total demand 3-month

during past 3 months

.

.

.

average

moving

.

.

.

20
120
.
.
21
130
360/3
120
22
110
380/3
126.67
23
140
360/3
120
24
110
380/3
126.67
25
130
26
?
MA
=
w A
+
w
A
+
+
w
A
1
1
2
2
n
n
n
where
w = 1
i
i = 1
If weights (
w
) are exponential in form, then
1
MA
=
α
A
+
α
(1
α
)
A
t
t − 1
+
α
(1
α
)
2 A
+
α
(1
α
)
3 A
t
2
t
− 3

+

+

α

(1

α

)

n

A

t

n

which reduces to the basic, level only, exponential smoothing formula

MA

=

F

t + 1

=

A

α

t

+

(1

α

)

F

t

where

α

F t + 1

A

t

F

t

= smoothing constant usually 0.01 to 0.30

= forecast for next period

= actual demand in current period

= forecast in current period

8-11

8-12

Exponential Smoothing Formulas

I. Level only

F t+1

= α A t + (1- α )F t

II. Level and trend

S t

T t

F t+1

= α A t + (1- α )(S t-1 + T t-1 )

= ß(S t - S t-1 ) + (1-ß)T t-1

= S t + T t

III. Level, trend, and seasonality

S t

I t

T t

F t+1

= α (A t /I t-L ) + (1- α )(S t-1 + T t-1 )

=

γ(A t /S t ) + (1-γ)I t-L

= ß(S t - S t-1 ) + (1-ß)T t-1

= (S t + T t )I t-L+1

IV. Forecast error

N

t = 1

|A t F |

t

N

or
N
2
(A
F )
t
t
t
=
1
S
=
F
N

where L is the time period of one full seasonal cycle.

 Example Exponential Smoothing Forecasting 8-13 Time series data Quarter 1 2 3 4 Last year This year 1200 700 900 1100 1400 1000 ? Getting started Assume α = 0.2. Average first 4 quarters of data and use for previous forecast, say F o 8-14

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Example (Cont’d)

Begin forecasting

F
=
(1200 700 900 1100)/4
+
+
+
=
975
0
First quarter of 2nd year
F =
0.2
A + −
(1
0.2)
F
1
0
0
= 0.2(1100) 0.8(975)
+
= 1000
Second quarter of 2nd year
F
=
0.2
A + −
(1
0.2)
F
2
1
1
= 0.2(1400) 0.8(1000)
+
= 1080
Example (Cont’d)
Third quarter of 2nd year
F =
0.2
A + −
(1
0.2)
F
3
2
0
=
0.2(1000) 0.8(1080)
+
= 1064
Summarizing
Quarter
1
2
3
4

Last

year

This

year

Fore-

cast

1200
700
900
1100
1400
1000
?
1000
1080
1064

8-15

8-16

Example (Cont’d)
n
A
F
|
t
t
t
=1 |
n
or RMSE (std. error of forecast)
n
(
A
− F
)
2
t
t
1 degree of freedom lost
S
=
t = 1
F
n − 1
in level-only model, but 2
in level-trend and 3 in
level-trend-seasonal
models

Example (Cont’d)

Using S F and assuming n=2
(1400 1000)
2
+
(1000 1080)
2
S =
F
2
1

= 408

Note To compute a reasonable average for S F , n should range over at least one seasonal cycle in most cases.

8-17

8-18

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Example (Cont’d)

Range of the forecast

If forecast errors are normally distributed and the forecast
n
− F
A t
t
is at the mean of the distribution, i.e.,
Bias
= t = 1
=0
,
n
forecast confidence band can be computed. The error
distribution for the level-only model results is:
a
Range
Bias should
be 0 or
close to it in
a model of
good fit
S F = 408
F
3 =1064
 8-19 Example (Cont’d) From a normal distribution table, z @95% =1.96. The actual time series value Y for quarter 3 is expected to range between: Y = F 3 ± z ( S F ) = 1064 ± 1.96(408) = 1064 ± 800 or 264 ≤ Y ≤ 1864 8-20

Correcting for Trend in ES

The trend-corrected model is S t = αA t + (1 – α)(S t-1 + T t-1 ) T t = β(S t S t-1 ) + (1 – β)T t-1

F t+1 = S t + T t

where S is the forecast without trend correction.

Assuming α = 0.2, β = 0.3, S -1 = 975, and T -1 = 0 Forecast for quarter 1 of this year S 0 = 0.2(1100) + 0.8(975 + 0) = 1000 T 0 = 0.3(1000 – 975) + 0.7(0) = 8 F 1 = 1000 + 8 = 1008

Correcting for Trend in ES

Forecast for quarter 2 of this year

S 0

T 0

S 1 = 0.2(1400) + 0.8(1000 + 8) = 1086.4 T 1 = 0.3(1086.4 – 1000) + 0.7(8) = 31.5 F 2 = 1086.4 + 31.5 = 1117.9

Forecast for quarter 3 of this year S 2 = 0.2(1000) + 0.8(1086.4 + 31.5) = 1094.3 T 2 = 0.3(1094.3 – 1086.4) + 0.7(31.5) = 24.4 F 3 = 1094.3 + 24.4 = 1118.7, or 1119

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8-21

Correcting for Trend in ES
Summarizing with trend correction
Quarter
1
2
3
4
Last
year
1200
700
900
1100
This
year
1400
1000
?
Fore-
cast
1008
1118
1119
8-23
Optimizing α for ES
Fore-
Minimize average
forecast error
cast
error
0
α
1

8-22

8-24

Controlling Model Fit in ES

Tracking signal monitors the fit of the model to detect when the model no longer accurately represents the data

Tracking signal =

A

t

F

t

MSE

where the Mean Squared Error (MSE) is

n
∑ (
A
− F
)
2 n is a reasonable number
t
t
MSE =
t =1
n of past periods depending
on the application
If tracking signal exceeds a specified value (control limit),
revise smoothing constant(s).
8-25
Classic Time Series
Decomposition Model
Basic formulation
F = T × S × C × R
where
F
= forecast
T
= trend
S
= seasonal index
C
= cyclical index (usually 1)
R
= residual index (usually 1)
Some time series data
Quarter
1
2
3
4
Last year
1200
700
900
1100
This year
1400
1000
?
8-26

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Classic Time Series Decomposition Model

Trend estimation

Use simple regression analysis to find the trend equation of the form T = a + bt. Recall the basic formulas:

∑ Yt
− nY t
b =
2
2
∑ t
− nt
and
a =Y − bt
8-27
Classic Time Series
Decomposition Model
Redisplaying the data for ease of computation.
2
t
Y
Yt
t
1
1200
1200
1
2
700
1400
4
3
900
2700
9
4
1100
4400
16
5
1400
7000
25
6
1000
6000
36
2
t=21
Y=6300
Yt=22700
t
=91
8-28
Hence,
b=
and
a=
6
then

6300

Classic Time Series Decomposition Model

22700 6(21/6)(6300/6)

91 6(21/6)

2

37.14(21/6)

=

920.01

T = 920.01 + 27.14t

Forecast for 3rd quarter of this year is:

T = 920.01 + 37.14(7) = 1179.99

8-29

Classic Time Series
Decomposition Model
Compute seasonal indices
The procedure is to form a ratio of actual demand to the
estimated demand for a full seasonal cycle (4 quarters).
One way is as follows.
Seasonal
t Y
T
Index, S t
1 1200
957.15*
1.25**
2 700
994.29
0.70
3 900
1031.43
0.87
4 1100
1068.57
1.03
*T=920.01 + 37.14(1)=957.15
**S t =1200/957.15=1.25
8-30

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Classic Time Series
Decomposition Model
Compute seasonal indices
Since C and R index values are usually 1, the
adjusted seasonal forecast for the 3rd quarter of this
year would be:
F 7 = 1179.99 x 0.87 = 1026.59
Forecast range
The standard error of the forecast is:
n
∑ (
− F
)
2 A degree of freedom is lost for the a
Y t
t
t = 1
and b values in forecast equation
S =
F
n − 2
8-31

Classic Time Series Decomposition Model

Tabled computations

 Qtr t Yt Tt St 1 1 1200 957.15 1.25 2 2 700 994.29 0.70 3 3 900 1031.43 0.87 4 4 1100 1068.57 1.03 1 5 1400 1105.71 1.27 2 6 1000 1142.85 0.88 3 7 1179.99
Ft
1404.25*
1005.71**
1026.59

*1105.71x1.27=1404.25

**1142.85x0.88=1005.71

8-32

Classic Time Series Decomposition Model

There is inadequate data to make a meaningful estimate of S F . However, we would proceed as follows:

 S = (1400 − 1404.25) 2 + (1000 − 1005.71) 2 F 2 − 2 = infinity Normally, a larger sample size would be used giving Then, a positive value for S F F t − z(S F ) ≤ Y ≤ F t + z(S F )

8-33

Regression Analysis

Basic formulation

F = β o 1 X 1 2 X 2 + n X n

Example

Bobbie Brooks, a manufacturer of teenage women’s clothes, was able to forecast seasonal sales from the following relationship

F = constant + β 1 (no. nonvendor accounts) 2 (consumer debt ratio)

8-34

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Regression Forecasting Using Bobbie Brooks Sales Data

(1)
(2)
(3)
(4)
(5)
(6)=
(2)/(5)
Sales period
Time
Sales (D t )
Trend value
Seasonal
Forecast
period, t
(\$000s)
D
×
t
t
2
(T
)
index
(\$000s)
t
t
Summer
1
\$9,458
9,458
1
\$12,053
0.78
Trans-season
2
11,542
23,084
4
12,539
0.92
Fall
3
14,489
43,467
9
13,025
1.11
Holiday
4
15,754
63,016
16
13,512
1.17
Spring
5
17,269
86,345
25
13,998
1.23
Summer
6
11,514
69,084
36
14,484
0.79
Trans-season
7
12,623
88,361
49
14,970
0.84
Fall
8
16,086
128,688
64
15,456
1.04
Holiday
9
18,098
162,882
81
15,942
1.14
Spring
10
21,030
210,300
100
16,428
1.28
Summer
11
12,788
140,668
121
16,915
0.76
Trans-season
12
16,072
192,864
144
17,401
0.92
*
Fall
13
?
17,887
\$18,602
*
Holiday
14
?
18,373
20,945
Totals
78
176,723
1,218,217
650
N = 12
D
t = 1,218,217
∑t 2
= 650
D
=
(
176 ,
723
/
12
)
=
14 ,
726
. 92
t
=
78
/ 12
=
6 . 5
×
t
Regression
equation is:
T t = 11,567.08 + 486.13t
*Forecasted values

8-35

Combined Model Forecasting

Combines the results of several models to improve overall accuracy. Consider the seasonal forecasting problem of Bobbie Brooks. Four models were used. Three of them were two forms of exponential smoothing and a regression model. The fourth was managerial judgement used by a vice president of marketing using experience. Each forecast is then weighted according to its respective error as shown below.

Calculation of forecast weights

 (1) (2) (3)= (4)= 1.0/(2) (3)/48.09 Percent Inverse of Model Forecast of total error Model type error error proportion weights MJ 9.0 0.466 2.15 0.04 R 0.7 0.036 27.77 0.58 ES 1 1.2 0.063 15.87 0.33 ES 2 8.4 0.435 2.30 0.05 Total 19.3 1.000 48.09 1.00

8-36

 Combined Model Forecasting (Cont’d) (1) (2) (3)= (1) × (2) Forecast type Model forecast Weighting factor Weighted proportion
 Regression model (R) \$20,367,000 0.58 Exponential Smoothing ES 1 20,400,000 0.33 Combined exponential smoothing-- regression model 17,660,000 0.05 (ES 2 ) Managerial judgment (MJ) 19,500,000 0.04 Weighted average forecast
\$11,813,000
6,732,000
883,000
780,000
\$20,208,000

8-37

8-38

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Seek information directly from customers

Collaborate with other channel members

Apply forecasting methods with caution (may work where forecast accuracy is not critical)

Delay supply response until demand becomes clear

Shift demand to other periods for better supply response

Develop quick response and flexible supply systems

8-39

Demand is lumpy or highly uncertain

Involves multiple participants each with a unique perspective—“two heads are better than one”

Goal is to reduce forecast error

The forecasting process is inherently unstable

8-40

Establish a process champion Identify the needed Information and collection processes Establish methods for processing information from multiple sources and the weights assigned to multiple forecasts Create methods for translating forecast into form needed by each party Establish process for revising and updating forecast in real time Create methods for appraising the forecast Show that the benefits of collaborative forecasting are obvious and real

8-41
•Delay forecasting as long as possible
•Prioritize supply by product’s degree of uncertainty
(supply to the more certain products first)
•Apply the principle of postponement to the most
uncertain products (delay committing to a final product
form until an order is received)
•Create flexible supply to changing demand (alter
capacity and output rates through subcontracting,
computer technology, multi-purpose processes, etc.)
•Be able to respond quickly to uncertain demand levels
8-42

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