Demand Forecasting

Definition
Demand forecasting is the scientific and
analytical estimation of demand for a
product (service) for a particular period of
time.
It is the process of determining how much
of what products is needed when and
where.

Criteria for a good

forecasting

Accuracy
Simplicity
Economy
Availability
Durability

Importance demand
forecasting : Demand
forecasting
is
dependent
on
assumptions. When the assumptions are reliable,
then the forecast is useful to business firms.
1)Narrow down the gap : Demand
forecasting helps the producer to take decisions
regarding output thus narrows down the gap
between demand and supply.
2)Maintaining regular supply : Demand
forecasting helps in maintaining regular supply of
final products in market.
3)To take decisions : Demand forecasting
enables a firm to take decisions regarding
purchasing of raw material, Level of output to be
produced, no. of persons to be employed, etc.

 4)helps in formulating suitable production and

output planning : Demand forecasting helps in
formulating suitable production and output planning to
avoid
the
problems
of
overproduction
or
underproduction.
5)To maintain adequate inventory : Production
planning helps a firm to maintain adequate inventory
and thus reduce chances of shortage or misuse of
resources.
6)Assemble and utilize the required finances :
Demand forecasting enables a firm to assemble and
utilize the required finances, on reasonable terms at
right time.
7)Deciding sales target and setting incentives :
Demand forecasting assists in deciding on sales target
and setting incentives for marketing & sales department.
8)Optimal utilisation of scare
resources : For
multiple product firms it becomes essential to take
decisions for optimal utilization of scare resources.

Methods of
forecasting

QUALITATIVE
Qualitative techniques mainly use subjective
assessment to forecast. there are situations in
economics and business field where either
data are not available or data are not relevant.
E:g for the estimate of cost of production of a
new product or to forecast the demand of a
new product, historical data are not available.
In such situation instead of mathematical rule,
knowledge, information and expert opinion are
needed. Therefore qualitative techniques of
forecasting are those which rely on expert
opinion, opinion of sales executive and
subjective assessment of the situation

Quantitative techniques
Quantitative techniques of forecasting
are based on time series data or
historical data and past and present
statistical data. Statistical techniques
are essential in clarifying relationship
and analysis of approximate demand.

Consumers Survey
Buyers are asked about future buying
intentions of products, brand preferences
and quantities of purchase, response to
an increase in the price, or comparison
with competitors products.
Census Method: Involves contacting
each and every buyer. Census survey is
applied when the potential buyer are
living in a limited region or area.
Sample
Method:
Involves
only
representative sample of buyers. It is less

Limitations :
1)Probable buyers themselves may not be aware of
their demand.
2)The information so collected may be less authentic.
3)The purchasers may change their purchase plans.
4)The method is useful when the industrial unit are
the buyers ,This is because they generally have
definite plans for their future purchase.

Sales Force opinion /Collective Opinion method

The idea behind this method is sales persons are in

direct contact with the customers. Salespersons are
asked about estimated sales targets in their respective
sales territories in a given period of time . the estimates
of all the salesmen are then collected to estimate the
total demand in future. the estimates of salesmen are
reviewed to eliminate the bias of optimism and
pessimism on the part of salesmen. Factors like
proposed changes in price, product design,
advertisement programmes, purchasing power. Etc are
also taken into account while making final estimate.

Advantages:
1. It is simple method involving no mathematical calculations
2. It is based on the first hand knowledge of salesman and the
persons directly connected with sales.
3. This method is particularly useful for the sales forecast of
new products.
Limitation
1. It is subjective approach. thus possibility of over estimates.
2. Suitable for short-term forecast only .
3. All salesmen may not be good estimator.

Expert opinion
In this method , a firm collects the information from
Outside experts, dealers ,and distributers, etc. The
expert opinion may be the joint outcome of specially
conducted survey among buyers and suppliers.

The main advantages of this method is that

the forecast can be made quickly and at cheaper
rates. Different point of view are taken into
consideration. since the services of expert are used
the method become more accurate and reliable
because they have better knowledge of the market
and changes. However this method fail when
forecasting is for a very long period.

Market experiment
Market
experiment
technique
involve
examining actual consumer behaviours under
controlled market condition. under this
method, the firm select some representative
market in different cities or area having
similar characteristic such as income,
population. Under this techniques, generally
one factor affecting the demand is varied and
other are kept constant and observation are
made. e;g a firm may vary the price of the
product while keeping other market condition
stable. Based on these generalized future
demand is estimated.

limitations
1. Expensive and time consuming.
2. Difficult to planning what factor. Should
be taken to be constant what factor
should be regarded as variable.
3. Difficult to satisfy the homogeneity of
market.
4. Skill is required o design market research studied
to determine the involved relationship.

 Quantitative
methods/statistical methods:
use mathematical or simulation
models
based
on
historical
demand or relationships between
variables.
Trend Projection
Regression analysis
Leading indicator/ Barometric
techniques
Simultaneous equation method

TREND PROJECTION
A firm which has been in exist for some
time, will have accumulated considerable
data on sales pertaining to different time
period. Such data when arranged
chronologically gives time series. The
time series relating to sales represent the
past pattern of effective demand for a
particular product. Such data can be used
to project the trend for future data.

 Time series has got four types of

components namely, Secular Trend (T),
Seasonal Variation (S), Cyclical Element (C),
and an Irregular or Random Variation (I).
Secular trend refers to the long run changes
that occur as a result of general tendency.
Seasonal variations refer to changes in the
short run weather pattern or social habits.
Cyclical variations refer to the changes that
occur in industry during depression and
boom.
Random variation refers to the factors such
as wars, strikes, flood, famine and so on.

When a forecast is made the seasonal,

cyclical and
random variations are removed from the
observed
data. Thus only the secular trend is left. This
trend is
then projected. Trend projection fits a trend
line to a
mathematical equation.
The trend can be estimated by using
any one of the following methods:
(a) The Least Square Method.
(b) The Graphical Method,

1) least square method : we use following

gerneral equation.
Y=a + bx
Where y= sales
a and b are the value which we have to
estimate from data.
X = year no. for which we need to forecast.
2) Graphical method : old value of sales for
different areas are plotted on a graph and a
free hand curve is drawn passing through
as many point as possible and the direction
of free hand curve shown trend.

 Advantages : it is very simple and quite

inexpensive method.
The data required for this method is
easily available from the firms own
record.
Limitation: it is based on assumption
that the past rate of change of the
variable under the study will continue in
future.
This method cannot usually explain the
turning point of a business cycle. that is
cause and effect relationship.
It need huge store data.

 Regression analysis: this is a very common

method of forecasting demand. Under this
method a
relationship is established
between quantity demanded (dependent
variable and independent variables such as
income, price of the related goods by using
regression technique
E:g In linear regression , the relationship
between dependent variable (e.g. demand)
and independent variable (e.g. time) can be
worked out with a given equation Y = a + bx
,
(where Y is demand and x is time. a, b, are
positive constants). Here a firm can find out
estimated demand for future

limitation
This technique requires more data than
other method.
This is totally inappropriate for generating
seasonal forecasts.
It is based on certain assumption that is
A) the dependent variable has a linear
relation with independent variables.
B) variation remain constant over the
range.

Barometric Technique/leading indicator method

A barometer is an instrument of
measuring change. This method is based
on the concept that the future can be
predicted from certain happenings in the
present. In other words, barometric
techniques are based on the idea that
certain events of the present can be used
to predict the directions of change in the
future. This is accomplished by the use of
economic and statistical indicators which
serve as barometers of economic change.

 Generally three type of leading

indicators .
1.Leading Series,
2.Coincident or Concurrent Series and
3.Lagging Series:

Leading Series,
The leading series comprise those factors which
move up or ahead of another variable . They tend
to reflect future market changes. For example,
baby powder sales can be forecasted by
examining the birth rate pattern five years earlier,
because there is a correlation between the baby
powder sales and children of five years of age and
since baby powder sales today are correlated with
birth rate five years earlier, Thus we can say that
births lead to baby powder sales or A forecaster
can relate the no. of flats constructed & sale of
floor cleaning machines, rise in money income
beyond a certain limit & sale of cars,

(b) Coincident or
Concurrent Series:
The coincident or concurrent series are
those which move up or down
simultaneously with the level of the
economy. Common examples of
coinciding indicators are the rates at
which commercial bank lend and accept
deposit, trading.

The Lagging Series:

The lagging series are those which take
place after some time lag with respect to
the business cycle. Examples of lagging
series are, labour cost per unit of the
manufacturing output, loans outstanding,
Limitation : it is not possible to find a
leading indicators for every variable
under forecast.

Simultaneous equation method

This method of demand forecasting involve
development of a complete model which can
explain the bahaviour of all the variables
which the firm can control. In such a model,
the number of equations is equal to the
number of variables. After the model is
developed, it is estimated through some
appropriate method such as the least square
method . The model is then solved for each of
the variable. e:g the sale of cigarettes depend
not only on internal factors such as cigarette
price and advertisement outlay, but also on
external factor such as consumer income.