Friday, February 21, 2014

Demand Forecasting

Demand Forecasting

Accurate demand forecasting is essential for a firm to enable it to produce the required quantities at the right time and to arrange well in advance for the various factors of production. Forecasting helps the firm to assess the probable demand for its products and plan its production accordingly.

Demand Forecasting refers to an estimate of future demand for the product. It is an “objective assessment of the future course of demand”. It is essential to distinguish between forecast of demand and forecast of sales. Sales forecast is important for estimating revenue, cash requirements and expenses. Demand forecast relate to production inventory control, timing, reliability of forecast etc...

Levels of Demand forecasting
Demand forecasting may be undertaken at three different levels;

1. Macro level – Micro level demand forecasting is related to the business conditions prevailing in the economy as a whole.

2. Industry Level – it is prepared by different trade association in order to estimate the demand for particular industries products. Industry includes number of firms. It is useful for inter-industry comparison.

3.  Firm level it is more important from managerial view point as it helps the management in decision making with regard to the firms demand and production.

Types of Demand Forecasting.

Based on the time span and planning requirements of business firms, demand forecasting can be classified into short term demand forecasting and long term demand forecasting.

Short term Demand forecasting: Short term Demand forecasting is limited to short periods, usually for one year. Important purposes of Short term Demand forecasting are given below;

1.      Making a suitable production policy to avoid over production or underproduction.

2.      Helping the firm to reduce the cost of purchasing raw materials and to control inventory.

3.      Deciding suitable price policy so as to avoid an increase when the demand is low.

4.      Setting correct sales target on the basis of future demand and establishment control. A high target may discourage salesmen.

5.      Forecasting short term financial requirements for planned production.

6.      Evolving a suitable advertising and promotion programme.

   Long term Demand Forecasting: this forecasting is meant for long period. The important purpose of long term forecasting is given below;

1.      Planning of a new unit or expansion of existing on them basis of analysis of long term potential of the product demand.

2.      Planning long term financial requirements on the basis of long term sales forecasting.

3.      Planning of manpower requirements can be made on the basis of long term sales forecast.

4.      To forecast future problems of material supply and energy crisis.

      Demand forecasting is a vital tool for marketing management. It is also helpful in decision making and forward planning. It enables the firm to produce right quantities at right time and arrange well in advance for the factors of production.

Methods of Demand Forecasting (Established Products)

Several methods are employed for forecasting demand. All these methods can be grouped into survey method and statistical method.

Survey Method.

Under this method, information about the desire of the consumers and opinions of experts are collected by interviewing them. This can be divided into four types;

1.    Opinion Survey method: This method is also known as Sales- Force –Composite method or collective opinion method. Under this method, the company asks its salesmen to submit estimate for future sales in their respective territories. This method is more useful and appropriate because the salesmen are more knowledgeable about their territory.

2.    Expert Opinion: Apart from salesmen and consumers, distributors or outside experts may also be used for forecast. Firms in advanced countries like USA, UK etc...make use of outside experts for estimating future demand. Various public and private agencies sell periodic forecast of short or long term business conditions.

3.    Delphi Method: It is a sophisticated statistical method to arrive at a consensus. Under this method, a panel is selected to give suggestions to solve the problems in hand. Both internal and external experts can be the members of the panel. Panel members are kept apart from each other and express their views in an anonymous manner. 

4.    Consumer Interview method: Under this method a list of potential buyers would be drawn and each buyer will be approached and asked about their buying plans. This method is ideal and it gives firsthand information, but it is costly and difficult to conduct. This may be undertaken in three ways:

A)      Complete Enumeration – In this method, all the consumers of the product are interviewed.

B)      Sample survey - In this method, a sample of consumers is selected for interview. Sample may be random sampling or Stratified sampling.

C)      End-use method – The demand for the product from different sectors such as industries, consumers, export and import are found out.

Statistical Methods

It is used for long term forecasting. In this method, statistical and mathematical techniques are used to forecast demand. This method is relies on past data. This includes;

1.      Trent projection method: Under this method, demand is estimated on the basis of analysis of past data. This method makes use of time series (data over a period of time). Here we try to ascertain the trend in the time series. Trend in the time series can be estimated by using least square method or free hand method or moving average method or semi-average method.

2.   Regression and Correlation: These methods combine economic theory and statistical techniques of estimation. in this method, the relationship between dependant variables(sales) and independent variables(price of related goods, income, advertisement etc..) is ascertained. This method is also called the economic model building.

3.    Extrapolation: In this method the future demand can be extrapolated by applying binomial expansion method. This is based on the assumption that the rate of change in demand in the past has been uniform.

4.     Simultaneous equation method: This means the development of a complete economic model which will explain the behaviour of all variables which the company can control.

5.     Barometric techniques: Under this, present events are used to predict directions of change in the future. This is done with the help of statistical and economic indicators like:

contract, Personal income Agricultural income Employment 

Industrial production
Bank deposit etc…