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USE TREND AND SEASONAL VARIATION(ADDITIVE AND MULTIPLICATIVE)

Forecasting
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Planning is an integral part of a manager's job. Forecasts help managers by reducing some of the uncertainty, thereby enabling them to develop more meaningful plans. A forecast is a statement about the future value of a variable such as demand. That is, forecasts are predictions about the future. Forecasts are a basic input in the decision processes of operations management because they provide information on future demand.

Forecasting Time Horizons

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Long-range forecast

3+ years New product planning, capital expenditures, facility location or expansion, research and development

Medium-range forecast

3 months to 3 years Sales and production planning, budgeting, cash budgeting and analysis of various operating plans

Short-range forecast

Up to 1 year, generally less than 3 months Purchasing, job scheduling, workforce levels, job assignments, production levels

Types of Forecasts
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Economic forecasts Address business cycle inflation rate, money supply, housing starts, etc. Technological forecasts Predict rate of technological progress Impacts development of new products Demand forecasts / sales forecasts Predict sales of existing product

Elements of a Good Forecast

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Timely. Usually, a certain amount of time is needed to respond to the information contained in a forecast Accurate. The degree of accuracy should be stated. This will enable users to plan for possible errors and will provide a basis for comparing alternative forecasts Reliable. It should work consistently

Approaches to Forecasting
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Qualitative methods consist mainly of subjective inputs, which often defy precise numerical description. Quantitative methods involve either the projection of historical data or the development of associative models that attempt to utilize causal (explanatory) variables to make a forecast.

Time Series Forecasting

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Forecasts that project patterns identified in recent time-series observations Time-series - a time-ordered sequence of observations taken at regular time intervals Assume that future values of the time-series can be estimated from past values of the time-series

Set of evenly spaced numerical data Obtained by observing response variable at regular time periods Forecast based only on past values Assumes that factors influencing past and present will continue influence in future

Time Series Forecasting

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Trend. refers to a long-term upward or downward movement in the data. Population shifts, changing incomes, and cultural changes often account for such movements. Seasonality refers to short-term, fairly regular variations generally related to factors such as the calendar or time of day. Restaurants, supermarkets, and theaters experience weekly and even daily seasonal variations. Cycles are wavelike variations of more than one year's duration. These are often related to a variety of economic, political, and even agricultural conditions.

Time Series Forecasting

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Irregular variations are due to unusual circumstances such as severe weather conditions, strikes, or a major change in a product or service. They do not reflect typical behavior, and their inclusion in the series can distort the overall picture. Whenever possible, these should be identified and removed from the data.
Random variations are residual variations that remain after all other behaviors have been accounted for.

Time Series Forecasting

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Trend. refers to a long-term upward or downward movement in the data. Population shifts, changing incomes, and cultural changes often account for such movements. Seasonality refers to short-term, fairly regular variations generally related to factors such as the calendar or time of day. Restaurants, supermarkets, and theaters experience weekly and even daily seasonal variations. Cycles are wavelike variations of more than one year's duration. These are often related to a variety of economic, political, and even agricultural conditions.

Advantages and Disadvantages of Index Numbers

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he main uses of index numbers are given below:

Index numbers are used in the fields of commerce, labor, industrial, etc. The index numbers measure fluctuations during intervals of time, group differences of geographical position of degree They are used to compare the total variations in the prices of different commodities in which the unit of measurements differs with time and price

Advantages and Disadvantages of Index Numbers

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They are helpful in forecasting the future economic trends. They are used in studying difference between the comparable categories of animals, persons or items. Index numbers of industrial production are used to measure the changes in the level of industrial production in the country. Index numbers of import prices and export prices are used to measure the changes in the trade of a country. The index numbers are used to measure seasonal variations and cyclical variations in

Trend Projection
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This technique fits a trend line to a series of historical data points and then project the line into the future for medium to long-range forecasts

Trend Projection
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Linear trends can be found using the least squares technique

a bx Ft a bt; y where Ft Forecastfor period t a Value of Ft at t 0, or the y - intercept b Slope of the line, angle of the line t Specified number of time periods from t 0

Trend Projection
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Coefficients of the line, a and b computed as:

b n ty t y n t t
2 2

y b t a or y bt n where n Number of periods y Value of the time series

Trend Projection - Example

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week (t)
1 2 3 4 5 6 7 8 9 10 t = 55

unit sales ty (y) 700 700 724 1448 720 2160 728 2912 740 3700 742 4452 758 5306 750 6000 770 6930 775 7750 y = 7407 ty = 41358

t2
1 4 9 16 25 36 49 64 81 100 t2=385

Trend Projection
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t = 55; y = 7,407; ty = 41,358; t2=385

b n ty t y n t t
2 2

10(41,358) 55(7,407) 6,195 b 7.51 2 10(385) (55) 825 y b t 7,407 7.51(55) a 699.4 n 10

The trend line: Ft = a + bt Ft = 699.4 + 7.51t

Trend Projection
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t = 55; y = 7,407; ty = 41,358; t2=385

ty nt y b t nt
2 2

41,358 (10)(5.5)(740.7) 619.5 b 7.51 2 385 (10)(5.5) 82.5 a y bt 740.7 (7.51)(5.5) 699.4

The trend line: Ft = a + bt Ft = 699.4 + 7.51t

Trend Projection
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Substituting values into the equation

Ft = 699.4 + 7.51t F11 = 699.40 + 7.51 (11) = 782.01 F12 = 699.40 + 7.51 (12) = 789.52

Seasonal Variations
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weather variations (e.g., sales of winter and summer sports equipment) vacations or holidays (e.g., airline travel, greeting card sales, visitors at tourist and resort centers) rush hour traffic occurs twice a dayincoming in the morning and outgoing in the late afternoon Theaters and restaurants often experience weekly demand patterns, with demand higher later in the week Banks may experience daily seasonal variations (heavier traffic during the noon hour and just before closing), weekly variations (heavier toward the end of the week), and monthly variations (heaviest around 15th and 30th)

Seasonal Variations
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Seasonality in a time series is expressed in terms of the amount that actual values deviate from the average value of a series. If the series tends to vary around an average value, then seasonality is expressed in terms of that average (or a moving average); if trend is present, seasonality is expressed in terms of the trend value

Seasonal Variations
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Additive

seasonality is expressed as a quantity (e.g., 20 units), which is added to or subtracted from the series average in order to incorporate seasonality seasonality is expressed as a percentage of the average (or trend) amount (e.g., 1.10), which is then used to multiply the value of a series to incorporate seasonality

Multiplicative

Seasonal Variations
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Multiplicative

The seasonal percentages in the multiplicative model are referred to as seasonal relatives or seasonal indexes.

STEPS (series vary around average value)

Find average historical demand for each season Compute the average demand over all seasons Compute a seasonal index for each season Estimate next years total demand Divide this estimate of total demand by the number of seasons, then multiply it by the seasonal index for that season

Seasonal Variations
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Month Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov Dec

Demand 2005 2006 2007 80 70 80 90 113 110 100 88 85 77 75 82 85 85 93 95 125 115 102 102 90 78 72 78 105 85 82 115 131 120 113 110 95 85 83 80

Average 2005-2007 90 80 85 100 123 115 105 100 90 80 80 80

Average Monthly 94 94 94 94 94 94 94 94 94 94 94 94

Seasonal Index 0.957 0.851 0.904 1.064 1.309 1.223 1.117 1.064 0.957 0.851 0.851 0.851

Seasonal Variations
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Month Jan Feb Mar Apr May Jun Jul Aug Sept Oct Nov Dec

Demand 2005 2006 2007

Average 2005-2007

Average Monthly

Seasonal Index 0.957 0.851 0.904 1.064 1.309 1.223 1.117 1.064 0.957 0.851 0.851 0.851

80 85 105 90 94 Forecast for 80 2008 70 85 85 94 80 93 82 85 94 Expected annual demand = 1,200 90 95 115 100 94 113 125 131 123 94 1,200 115 110 115 120 Jan x .957 = 96 94 12 105 100 102 113 94 88 102 110 1,200 100 94 Feb 95 x90 .851 = 85 94 85 90 12 77 78 85 80 94 75 72 83 80 94 82 78 80 80 94

Seasonal Variations - Example

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A coffee shop owner wants to estimate demand for the next two quarters for hot chocolate. Sales data consist of trend and seasonality. Quarter relatives are 1.20 for the first quarter, 1.10 for the second quarter, 0.75 for the third quarter, and 0.95 for the fourth quarter. Use this information to deseasonalize sales for quarters 1 through 8. Using the appropriate values of quarter relatives and the equation Ft = 124 + 7.5t for the trend component, estimate demand for periods 9 and 10.

a.

b.

Seasonal Variations
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The trend values are:

F9 = 124 + 7.5(9) = 191.50

Period 9 is a first quarter and period 10 is a second quarter. Multiplying each trend value by the appropriate quarter relative results in:

Period 9 = 191.5 (1.20) = 229.8

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Choosing a forecasting technique

No single technique works best in every situation The two most important factors are cost and accuracy availability of historical data availability of computer software the time needed to gather and analyze data and to prepare the forecast