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Operations Management BU 385

Operations Management BU 385

Roadmap

Last Class

Forecasting – Part 2 (Ch 3)

Today

Forecasting – Part 3 (Ch 3)

Next class

Product Design (Ch 4) Reliability (Supplement to Ch 4 – Connect)

Participation (5%) – Dropbox Quizzes

Answer the assigned problem (see handout)

Individually or in a group – max of 3 students from your section

All work will be automatically submitted to turnitin, to detect plagiarism

There will be three levels of grades for each quiz

0%: If you do not submit or your work is of very poor quality

50%: If you make a good attempt but have some serious errors

100%:

If it is right or mostly right

Participation (5%) – Dropbox Quizzes  Answer the assigned problem (see handout)  Individually or in

Quiz 1 due Wednesday, October 5, midnight I will post solutions after the due date

Components of Demand

Average demand for a period of time

Trend Seasonal element Cyclical elements Random variation

Today

Forecasting accuracy & control

Solving problems

Forecasting Accuracy

The degree of correctness of the forecasts generated through the forecasting process

Why do we need it?

To choose a forecasting technique

To prepare for probable values of demand

To monitor performance over time and take corrective actions if necessary

Accuracy and Control of Forecasts

Error Error = = Actual Actual value value - - Forecast Forecast value value

+ve +ve = = forecast forecast too too low, low, -ve -ve = = too too high high

Three Three measures measures to to evaluate evaluate forecasts: forecasts:

Mean Mean absolute absolute deviation deviation (MAD) (MAD)

Mean Mean squared squared error error (MSE) (MSE)

Mean Mean absolute absolute percent percent error error (MAPE) (MAPE)

Control Control charts charts

plot plot errors errors to to see see if if within within pre-set pre-set control control limits limits

Tracking Tracking signal signal [exclusion] [exclusion]

Ratio Ratio of of cumulative cumulative error error and and MAD MAD

Evaluating Forecasts

How far off is the forecast?

Forecasts Demands
Forecasts
Demands

What do we do with this information?

Three ways to measure error

Mean absolute deviation (MAD)

Average absolute error Similar to standard deviation

Mean squared error (MSE)

Average of squared error Similar to variance

Mean absolute percent error (MAPE)

Error, MAD, MSE and MAPE

Error e Actual Forecast A F

t

t

MAD

Actual Forecast

n

MSE

Actual Forecast

2

n

MAPE 100

Actual

Forecast  

Actual

%

n

MAD, MSE and MAPE

MAD MAD
MAD
MAD

linearly linearly

Weights Weights errors errors

Easy Easy to to compute compute

MSE MSE
MSE
MSE

large large errors errors

Squares Squares error error

More More weight weight to to

MAPE MAPE
MAPE
MAPE
satisfactory satisfactory • Accuracy Accuracy above above 70% 70% • perspective perspective • Puts Puts errors
satisfactory satisfactory
• Accuracy Accuracy above above 70% 70%
perspective perspective
• Puts Puts errors errors in in

Ex 1: Error, MAD, MSE and MAPE

Compute MAD, MSE, and MAPE for the following data

Period

Actual

Forecast

e

 

e

 

e

2

e
e

100

   

A

1

 
  • 217 215

2

 

2

 

4

0.92%

2

 
  • 213 3

216

   

3

 

9

1.41%

3

 
  • 216 215

1

 

1

 

1

0.46%

4

 
  • 210 4

214

   

4

 

16

1.90%

       

10

30

4.69%

Error, MAD, MSE and MAPE

Period

Actual

Forecast

e

 

e

 

e

2

e
e

100

   

A

 
  • 1 215

217

 

2

 

2

 

4

0.92%

 
  • 2 216

213

 

3

 

3

 

9

1.41%

 
  • 3 215

216

 

1

 

1

 

1

0.46%

 
  • 4 214

210

 

4

 

4

 

16

1.90%

       

10

30

4.69%

Error, MAD, MSE and MAPE Period Actual Forecast e e e 2 e  100 A
 e MAD   2 .5 n 2  e MSE   7 .5
e
MAD 
 2 .5
n
2
e
MSE
 7 .5
n
e
 100
A
MAPE

1 .17 %

n

Can we compare MAD, MSE and MAPE?

MAD & MSE are dependent on the scale of data

Can be used to compare different forecasts on the same time series, but not across different time series variables

Lower value of MAD or MSE = more accurate forecast

MAPE – expressed as percentage, independent of scale of data

Can be used to make comparisons across different time series variables

Bias

bias bias = = the the sum sum of of the the forecast forecast

errors errors

+ve +ve bias bias = = frequent frequent underestimation underestimation

-ve -ve bias bias = = frequent frequent overestimation overestimation

Use Use of of MAD, MAD, MSE, MSE, or or MAPE MAPE assumes assumes

negligible bias

negligible bias

Possible Possible sources sources of of error error

include include

Model Model may may be be inadequate inadequate (things (things have have

changed) changed)

Incorrect Incorrect use use of of forecasting forecasting

technique technique

Bias  bias bias = = the the sum sum of of the the forecast forecast

Forecast Control

It is necessary to monitor forecast errors to

ensure that the forecast is performing

adequately over time. This is generally

accomplished by comparing forecast errors

to predefined values, or action limits

Upper limit  Range of 0 acceptable variation  Lower limit Time Need Need for for
Upper limit
Range of
0
acceptable
variation
Lower limit
Time
Need Need for for
corrective corrective
action action
Error

Control Chart

A A visual visual tool tool for for monitoring monitoring forecast forecast

errors errors

Used Used to to detect detect non-randomness non-randomness in in errors errors

Set Set limits limits that that are are multiples multiples of of the the √MSE √MSE

Forecasting Forecasting errors errors are are “in “in control” control”

when when only only random random errors errors occur occur – – i.e. i.e. no no

errors errors from from identifiable identifiable causes causes

All All errors errors are are within within control control limits limits

No No patterns patterns (e.g. (e.g. trends trends or or cycles) cycles) are are present present

Errors Errors outside outside limit limit = = need need

Control Chart  A A visual visual tool tool for for monitoring monitoring forecast forecast 

corrective corrective action action

Controlling Forecasts: Control Limits Standard deviation of error  2 e = s  MSE 
Controlling Forecasts: Control Limits
Standard
deviation of error
2
e
=
s
MSE
n
Control Limits
=
0 ±
2 (or 3) s

95% of all errors should be within 2s 97.7% of all errors should be within 3s

Control Chart

The control chart sets the limits

as multiples of the squared root

of MSE
of MSE
Example: Control Chart A A F F A A - - F F Month Month (Sales)
Example: Control Chart
A A
F F
A A - - F F
Month Month (Sales) (Sales)
(Forecast) (Forecast) Error Error
MSE MSE
1
1
90 90
100 100
-10 -10
100 100
2
2
95 95
100 100
-5 -5
25 25
3
3
115 115
100 100
+15 +15
225 225
4
4
100 100
110 110
-10 -10
100 100
5
5
125 125
110 110
+15 +15
225 225
6
6
140 140
110 110
+30 +30
900 900
1575
1575
1575
s 
262.5 16.2
6

Errors should be within ± 2(16.2).

Example: Control Chart A A F F A A - - F F Month Month (Sales)

Lower limit = -32.4 Upper limit = 32.4

Example: Control Chart(contd)

Example: Control Chart(contd) All the errors are within the control limits 20

All the errors are within the control limits

Example – Forecast Control

Below Below is is a a sports sports nutrition nutrition store’s store’s actual actual sales sales and and demand demand forecasts forecasts for for a a specific specific protein protein

supplement supplement for for 5 5 months. months.

How How accurate accurate is is their their forecast? forecast?

Calculate Calculate MAD MAD and and MSE MSE and and create create a a control control chart chart

Month Sales Forecast 1 350 N/A 2 390 400 3 330 375 4 420 400 5
Month
Sales
Forecast
1
350
N/A
2
390
400
3
330
375
4
420
400
5
450
440

Example – Forecast Control

Month

Sales

Forecast

Error

Abs.

Squared

Error

Error

1

350

N/A

-

-

-

2

390

400

3

330

375

4

420

400

5

450

440

S = ?

Upper Limit = ?

Lower Limit = ?

Example – Forecast Control

Month Sales Forecast Error Abs. Squared Error Error 1 350 N/A - - - 2 390
Month
Sales
Forecast
Error
Abs.
Squared
Error
Error
1
350
N/A
-
-
-
2
390
400
-10
10
100
3
330
375
-45
45
2025
4
420
400
20
20
400
5
450
440
10
10
100
-25
85
2625
Bias?

S = √MSE = √(2625/4) = 25.6

 

Upper Limit = 2*25.6 = 51.2

Lower Limit = -2*25.6 = -51.2

Example – Forecast Control Month Sales Forecast Error Abs. Squared Error Error 1 350 N/A -

Why Do We Need Forecast Control?

Incorrect use of forecasting method

The omission of an important variable

Appearance of a new variable

A sudden or unexpected change in the

variable (causing by severe weather

or other nature phenomena,

temporary shortage or breakdown,

catastrophe, or similar events)

Data being misinterpreted

Random variation

Trend which cannot go on forever

Why Do We Need Forecast Control?  Incorrect use of forecasting method  The omission of

[Nortel]

Choosing a Forecasting Technique

No single technique works in every situation

Two most important factors

Cost

Accuracy

Other factors include availability of:

Choosing a Forecasting Technique  No single technique works in every situation  Two most important

Historical data

Computers

Time needed to gather and analyze the data

Forecast horizon

Matching Forecasting Techniques with the phases of the Life Cycle of the Product or Service

Demand

Incubation Judgmental • Growth Double Exponential Smoothing Linear Trend • • Simple Exponential Smoothing Moving Averages

Incubation

Judgmental

Growth Double Exponential Smoothing Linear Trend • •
Growth
Double Exponential Smoothing
Linear Trend

Simple Exponential Smoothing

Moving Averages

techniques

Decline

Maturity/Saturation

Time

Incubation Judgmental • Growth Double Exponential Smoothing Linear Trend • • Simple Exponential Smoothing Moving Averages

Judgmental techniques

Demand Incubation Judgmental • Growth Double Exponential Smoothing Linear Trend • • Simple Exponential Smoothing Moving

Next Class

Product Design – Ch 4

Reliability (Supplement to

Chapter 4)

Find it on Connect