Operations Planning – Demand Forecasting | Capacity Management

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  • Last Updated on 2 March, 2024

Operations Planning

Table of Contents

  1. Demand Forecasting
  2. Capacity Planning and Utilization
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1. Demand Forecasting

1.1 Forecasting

Forecasting means peeping into the future. As future is unknown and is anybody’s guess but the business leaders in the past have evolved certain systematic and scientific methods to know the future by scientific analysis based on facts and possible consequences. Thus, this systematic method of probing the future is called forecasting. In this way forecasting of sales refers to an act of making prediction about future sales followed by a detailed analysis of facts related to future situations and forces which may affect the business as a whole.

Forecast must see that they are very nearer to the accuracy.

In long range forecast, the normal period used is generally 5 years. In some cases it may extends to 10 to 15 years also. The purpose of long range forecast is:

  1. To work out expected capital expenditure for future developments or to acquire new facilities,
  2. To determine expected cash flow from sales,
  3. To plan for future manpower requirements,
  4. To plan for material requirement,
  5. To plan for Research and Development. Here much importance is given to long range growth factor.

In case of medium range forecasting the period may extend over to one or two years. The purpose of this type of forecasting is:

  1. To determine budgetary control over expenses,
  2. To determine dividend policy,
  3. To find and control maintenance expenses,
  4. To determine schedule of operations,
  5. To plan for capacity adjustments.

In case of short-term forecast, which extends from few weeks to three or six months and the following purposes are generally served:

  1. To estimate the inventory requirement,
  2. To provide transport facilities for despatch of finished goods,
  3. To decide work loads for men and machines,
  4. To find the working capital needed,
  5. To set-up of production run for the products,
  6. To fix sales quota,

To find the required overtime to meet the delivery promises.

1.2 Steps in Forecasting

Whatever may be the method used for forecasting, the following steps are followed in forecasting:

(a) Determine the objective of forecast: What for you are making forecast? Is it for predicting the demand? Is it to know the consumer’s preferences? Is it to study the trend? You have to spell out clearly the use of forecast.

(b) Select the period over which the forecast will be made? Is it long-term forecast or medium-term forecast or short-term forecast? What are your information needs over that period?

(c) Select the method you want to use for making the forecast: This method depends on the period selected for the forecast and the information or data available on hand. It also depends on what you expect from the information you get from the forecast. Select appropriate method for making forecast.

(d) Gather information to be used in the forecast: The data you use for making forecasting to produce the result, which is of great use to you. The data may be collected by:

(i) Primary source: This data we will get from the records of the firm itself.

(ii) Secondary source: This is available from outside means, such as published data, magazines, educational institutions etc.

(e) Make the forecast: Using the data collected in the selected method of forecasting, the forecast is made.

1.3 Forecasting Methods

Methods or techniques of sales forecasting: Different authorities on marketing and production have devised several methods or techniques of sales or demand forecasting. The sales forecasts may be result of what market people or buyers say about the product or they may be the result of statistical and quantitative techniques. The most common methods of sales forecasting are:

1. Survey of buyer’s intentions or the user’s expectation method: Under this system of sales forecasting actual users of the product of the concern are contacted directly and they are asked about their intention to buy the company’s products in an expected given future usually a year. Total sales forecasts of the product then estimated on the basis of advice and willingness of various customers. This is most direct method of sales forecasting. The chief advantages of this method are:

(i) Sales forecast under this method is based on information received or collected from the actual users whose buying actions will really decide the future demand. So, the estimates are correct.

(ii) It provides a subjective feel of the market and of the thinking behind the buying intention of the actual uses. It may help the development of a new product in the market.

(iii) This method is more appropriate where users of the product are numbered and a new product is to be introduced for which no previous records can be made available.

(iv) It is most suitable for short-run forecasting.

2. Collective opinion or sales force composite method: Under this method, views of salesmen, branch manager, area manager and sales manager are secured for the different segments of the market. Salesmen, being close to actual users are required to estimate expected sales in their respective territories and sections. The estimates of individual salesmen are then consolidated to find out the total estimated sales for the coming session. These estimates are then further examined by the successive executive levels in the light of various factors like proposed changes in product design, advertising and selling prices, competition etc. before they are finally emerged for forecasting.

3. Group executive judgment or executive judgment method: This is a process of combining, averaging or evaluating, in some other way, the opinions and views of top executives. Opinions are sought from the executives of different fields i.e., marketing; finance; production etc. and forecasts are made.

4. Experts’ opinions: Under this method, the organisation collects opinions from specialists in the field outside the organisation. Opinions of experts given in the newspapers and journals for the trade, wholesalers and distributors for company’s products, agencies or professional experts are taken. By analysing these opinions and views of experts, deductions are made for the company’s sales, and sales forecasts are done.

5. Market test method: Under this method seller sells his product in a part of the market for sometimes and makes the assessment of sales for the full market on the bases of results of test sales. This method is quite appropriate when the product is quite new in the market or good estimators are not available or where buyers do not prepare their purchase plan.

6. Trend projection method: Under this method, a trend of company’s or industry’s sales is fixed with the help of historical data relating to sales which are collected, observed or recorded at successive intervals of time. Such data is generally referred to as time series. The change in values of sales is found out. The study may show that the sales sometimes are increasing and sometimes decreasing, but a general trend in the long run will be either upward or downward. It cannot be both ways. This trend is called secular trend. The sales forecasts with the help of this method are made on the assumption that the same trend will continue in the future. The method which is generally used in fitting the trend is the method of least squares or straight line trend method. With this method a straight line trend is obtained. This line is called ‘line of best fit’. By using the formula of regression equation of Y on X, the future sales are projected.

1.4 Frequently Asked Questions (FAQs)

FAQ 1. What are two measures of forecasting?

MEAN absolute deviation (MAD) and bias.

FAQ 2. What are the merits of the Delphi method of forecasting technique?

Delphi is preferred for the following reasons:

  • It involves knowledgeable persons on the subject.
  • Members in Delphi exercise come from different subject area and therefore the method is able to consider and pool up various aspects of the issue.
  • The members do not meet each other, their views are not influenced by the views of other.
  • No conflict of personality is seen in the process.
  • No dominance by any influential expert on the other experts.
  • It gives quick results as compared to quantitative techniques and helps in timely decisions.

FAQ 3. What is measured by regression analysis?

Regression analysis is a statistical tools for measuring the change in dependent variable due to change in independent variable. It helps in estimation of dependent variable on the basis of dependent variable.

2. Capacity Planning and Utilization

2.1 Capacity Planning

The effective management of capacity is the most important responsibility of production and operations management. The objective of capacity management i.e., planning and control of capacity, is to match the level of operations to the level of demand.
Capacity planning is concerned with finding answers to the basic questions regarding capacity such as:

  1. What kind of capacity is needed?
  2. How much capacity is needed?
  3. When this capacity is needed?

Capacity planning is to be carried out keeping in mind future growth and expansion plans, market trends, sales forecasting, etc. Capacity is the rate of productive capability of a facility. Capacity is usually expressed as volume of output per period of time.

Capacity planning is required for the following:

  • Sufficient capacity is required to meet the customers demand in time,
  • Capacity affects the cost efficiency of operations,
  • Capacity affects the scheduling system,
  • Capacity creation requires an investment,
  • Capacity planning is the first step when an organisation decides to produce more or new products.

Capacity planning is mainly of two types:

  1. Long-term capacity plans which are concerned with investments in new facilities and equipments. These plans cover a time horizon of more than two years.
  2. Short-term capacity plans which takes into account work-force size, overtime budgets, inventories etc.

Capacity refers to the maximum load an operating unit can handle. The operating unit might be a plant, a department, a machine, a store or a worker. Capacity of a plant is the maximum rate of output (goods or services) the plant can produce.

Effective Capacity can be determined by giving due consideration to the following factors:

  • Facilities – Design, location, layout and environment.
  • Product – Product design and product-mix.
  • Process – Quantity and quality capabilities of the process or to be followed.
  • Human factors – Job content, Job design, motivation, compensation, training and experience of labour, learning rates and absenteeism and labour turn over.
  • Operational factors – Scheduling, materials management, quality assurance, maintenance policies, and equipment break-downs.
  • External factors – Product standards, safety regulations, union attitudes, pollution control standards.

2.2 Measurement of capacity

Capacity of a plant is usually expressed as the rate of output, i.e., in terms of units produced per period of time (i.e., hour, shift, day, week, month etc.). But when firms are producing different types of products, it is difficult to use volume of output of each product to express the capacity of the firm. In such cases, capacity of the firm is expressed in terms of monetary value (production value) of the various products produced put together.

2.3 Capacity Planning Decisions

Capacity planning involves activities such as:

  1. Assessing the capacity of existing facilities.
  2. Forecasting the long-range future capacity needs.
  3. Identifying and analysing sources of capacity for future needs.
  4. Evaluating the alternative sources of capacity based on financial, techno- logical and economical considerations.
  5. Selecting a capacity alternative most suited to achieve strategic mission of the firm.

2.4 Factors affecting determination of plant capacity

  1. Capital investment required,
  2. Changes in product design, process design, market conditions and product life cycles,
  3. Flexibility for capacity additions,
  4. Level of automation desired,
  5. Market demand for the product,

Factors Affecting Capacity Planning: Two kinds of factors affecting capacity planning are:

  1. Controllable Factors: amount of labour employed, facilities installed, machines, tooling, shifts of work per day, days worked per week, overtime work, subcontracting, preventive maintenance and number of production set ups.
  2. Less Controllable Factors: absenteeism, labour performance, machine break-downs, material shortages, scrap and rework, strike, lock-out, fire accidents, natural calamities (flood, earthquake etc.)

2.5 Frequently Asked Questions (FAQs)

FAQ 1. How Can you identify a bottleneck in a process?

A bottleneck can be identified by determining points at which excessive amounts of work-in-process inventories are accumulated.

FAQ 2. Which type of capacity plan takes into account workforce size, overtime budgets, inventories, etc.?

Short-term capacity plan.

Disclaimer: The content/information published on the website is only for general information of the user and shall not be construed as legal advice. While the Taxmann has exercised reasonable efforts to ensure the veracity of information/content published, Taxmann shall be under no liability in any manner whatsoever for incorrect information, if any.

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