LECTURE – 1

FORECASTING DEMAND IN SERVICES

 Learning Objective

• To discuss various methods of forecasting demand in services

7.1 Managing demand in services

• There is no option of inventory buffer to meet variations in service demand

 Perishable nature of service : simultaneous production and consumption of

services

• Fixed capacity of service system restricts flexibility to entertain demand

 Rooms in a hotel and seats in airplane

• Seasonality in demand for some services & spur of the moment decisions of customers
that is unpredictability of demand
 Heart attack emergency cannot can be planned
 Visiting hill station during summer season can be planned
• Personalized service take varying service times

7.1.1 Forecasting demand for services

• Forecasting demand forms the basis for planning activities. Forecasting involves in
estimating future event by systematically combining past data in some predetermined
way.
• Estimates the number of units of services that could be sold

 Number of customers

 Number of hours of service supplied

  Units of service product supplied(liters of petrol, number of caller tuner, number
of transactions)

• Various forecasting methods can be adopted to forecast the demand for service as shown
in Figure 7.1.

Judgmental or Subjective Association or causal Time series

Delphi Moving
Method Regression and /or
Econometric models Averages

Cross Impact Weighted

analysis Moving
averages
Historical
Analogy Exponential
Smoothing

FIGURE 7.1: VARIOUS FORECASTING METHODS TO FORECAST

DEMAND FOR SERVICE

7.2 Subjective or qualitative forecasting methods are used where

 No past data is available

 If some data is available, cannot be used for long run forecast

 Mostly used for new technology or new products introduced

 The patterns can be trend, seasonality, cycle, regular and irregular variations as
shown in Figure 7.2.

 Trend: A gradual increase (upward movement) or decrease (downward movement)

in observations over time.

 Cycle: An unpredictable long-term cycling behavior. This behavior may be due to

business cycle or service product life cycle

 Seasonality: A predictable short-term cycling behavior due to time of day, week,

month, season or year.

 Random error: Remaining variation that cannot be explained by the other four
components also called residual variations.

 Irregular variations: Variations due to irregular circumstances which do not reflect

any typical behavior.

 Level: Short term patterns that are not repetitive in nature.

 Upward trend

Irregular
variations

Downward trend

Cycle

Seasonality

FIGURE 7.2: TIME SERIES FORECASTING PATTERNS

7.2.1 Delphi Method

 An expert opinion based forecasting method proposed by Olaf Helmer

 Repeatedly or iteratively asking questions to the diverse experts independently till the
experts arrive at a consensus

Steps in Delphi Method

1. The administrator prepares some questions using scale like likert scale and some
open ended questions.

2. Send the questionnaire to the experts in the area. The experts are not allowed to
interact with each other.

3. The experts are expected to give numerical estimates as per the proposed scale.

4. The test administrator tabulates the responses into quartiles. This completes the round
1 of Delphi method.

5. The administrator send the findings from round 1 along with some updated questions
based on the open ended responses to the experts.

6. The experts are expected to reconsider their answers and to justify their opinions.

The steps (2) to (6) are repeated till all the experts arrive at a consensus

7.2.2 Cross Impact Analysis

• The main assumption in this method is that some future event to be occurred is
related to the occurrence of an earlier event.

• The earlier event & future events are correlated.

 • The conditional probabilities are estimated for the events, which are revised over a
series of iterations by the experts.

7.2.3 Historical Analogy

• To forecast the growth pattern of new service it is assumed that it may show the
pattern of a similar concept for which data are available.

7.3 Quantitative forecasting methods

 Short term forecasts where future of a data set is assumed to be function of the past of
that set

 An ordered sequence of observations taken at regular intervals of time

 The past data set presents an identifiable pattern over time

 Cannot include new factor in future

7.3.1 Time Series Forecasting: Moving Averages

• Let’s forecast the demand for a service

• N- Period moving average for time period t found by adding the actual observation or
demand during past recent N- periods and dividing by N

• For each next time period forecast, the most recent observation of previous forecast
is added and the oldest observation is dropped.

• It helps in smoothing out short term irregularities, also called Level.

• Each observation is weighted equally. If there is 3-period moving average then all
three recent observation will have weight of 1/3.

Example
A hospital wants to forecast the number of surgeries to be performed for the month of
December. The observed number of surgeries for the same year from January to
November is given in the Table 7.1. What is the forecasted number of surgeries a
hospital can expect for December?

TABLE 7.1: N PERIOD MOVING AVERAGE FORECAST OF NUMBER OF

SURGERIES IN A HOSPITAL

Time Period Actual Observation (O t ) Forecast at t

Month (t) Surgeries done in hospital N Period Moving Average

3 Month 4 Month
Jan 15 - -
Feb 17 - -
Mar 18 -
Apr 21 15+17+18/3
May 28 17+18+21/3 15+17+18+21/4
Jun 31 18+21+28/3 17+18+21+28/4
Jul 35 21+28+31/3 18+21+28+31/4
Aug 33 28+31+35/3 21+28+31+35/4
Sep 23 31+35+33/3 28+31+35+33/4
Oct 28 35+33+23/3 31+35+33+23/4
Nov 19 33+23+28/3 35+33+23+28/4
Dec 23+28+19/3 33+23+28+19/4

Forecast at t = Ot-1+Ot-2+…..+Ot-n
N
Ot: Actual observation at time period t
The number of surgeries forecasted for the month of December with 3
month moving average is

𝟐𝟑 + 𝟐𝟖 + 𝟏𝟗
𝑭𝑫𝒆𝒄𝒆𝒎𝒃𝒆𝒓 = = 𝟐𝟑
𝟑

The number of surgeries forecasted for the month of December with 4

month moving average is

𝟑𝟑 + 𝟐𝟑 + 𝟐𝟖 + 𝟏𝟗
𝑭𝑫𝒆𝒄𝒆𝒎𝒃𝒆𝒓 = = 𝟐𝟔
𝟑

7.4 Time Series Forecasting: Weighted Moving Average

• The demand data or observations when follow some trend or pattern

• Give different weights to different observations

• Respond to changes where recent observations are more emphasized or given more
importance

Actual Observation Forecast at 3 Period

Time Period
(O t ) Surgeries done in (month) Weighted
Month (t)
hospital Moving Average

Jan 15 -

Feb 17 -

Mar 18 -

Apr 21 [3x18 + 2x17 + 1x15]/6

May 28 [3x21 + 2x18 + 1x17]/6

Jun 31
 Jul 35

Aug 33

Sep 23

Oct 28

Nov 19
wt-1Ot-1+wt-2Ot-2+wt-nOt-
Forecast
Dec at t=
Wt-1+wt-2+wt-

In the above example, the weights given to the most recent observation, w t-
1 =3, next most recent, w t-2 = 2 and next to next most recent, w t-3 = 1.

The forecast for the month of December is

𝟑×𝟏𝟗+𝟐×𝟐𝟖+𝟏×𝟐𝟑
𝑭𝑫𝒆𝒄𝒆𝒎𝒃𝒆𝒓 = =23
𝟔

In this example more weight is given to the most recent occurring observation that is of
November month.

7.5 Time Series Forecasting: Exponential Smoothing

• Smooth’s out blips in the data

• Required most recent observation

• At the same time old data or observations are never dropped or lost, in fact, older
observations are given progressively less weight

=
Ft Ft −1 + ∝ (Ot −1 − Ft −1 )
  Where F t 𝑖𝑠 𝑡ℎ𝑒 smoothed forecast value for period t, O t is actual observed
value for period t and ∝ is smoothing constant assigned value mostly between
0.1 and 0.5.

• The term (O t-1 – F t-1 ) represents the forecast error (Difference between the actual
observation and forecast value that was calculated in the prior period)

• Hence, also called feeding back system where forecast error is considered to corrected
the previous smoothed or forecast value.

Example

In January, the number of surgeries to be performed were predicted for February to be 100.
Actual number of surgeries performed were 120. Using ∝ = 0.3, the forecast for the month
of March using exponential smoothing tool is

Forecast (March) = 100 + 0.3 (120-100)

= 100 + 0.3 (20)

= 106

7.6 Association or Causal Forecasting Method

• Association or causal forecasting method helps in capturing trend in data.

• Consider several independent variables that are related to the dependent variable
being predicted.
• Independent variables can be many factors, which relates with the dependent
variable.
• Linear regression analysis is the most commonly used quantitative casual forecasting
model.
• Example: The sales of spare parts of auto vehicles depend on the age of vehicle,
seasonal changes, distance covered etc..
The forecast expression for exponential smoothing can also be written as
F = αOt +(1-α)Ft
t+1
If we substitute F t in the above expression we get
F = αOt +(1-α)[αO +(1-α)F ]
t+1 t-1 t-1
and similarly we can substitute for F t-1 . That means in exponential smoothing forecast
method the last period forecast captures the entire information about the past demand.
It can also be seen that maximum weightage is given to the last period demand and
lower weightages are given to the individual demand points as one goes down (past
data) in time.
Example
Demand Forecast with α =0.1
Time period
(O t ) (F t )
1 10 10
2 18 10
3 29 11
4 15 13
5 30 13
6 12 15
7 16 14
8 8 14
9 22 14
10 14 15
11 15 15
12 27 15
13 30 16
14 23 17
15 15 18
 16 20 18

Regression Model

• In linear regression model, there can be n independent variables X i related to the

dependent variable Y, as expressed below

Y = a 0 + a 1 X 1 + a 2 X2 + …..a n X n

Where a 0 , a 1 , a 2 …..a n , are the coefficients by using regression equations

∧
• Least squares method can be utilized to forecast the dependent variable,
Y
related to independent variable X,
∧
Y
=a 0 + a 1 X

a 0 represents y-axis intercept

a 1 represents slope of the regression line

• The values of a 0 and a 1 are so determined which can represent Y using best fit line
∧
Y
=a 0 + a 1 X within the range of observations of Y i and X i

Least Square Method

We have the data on Y i and X i

Define error E i as

E i = (a 0 + a 1 X i - Y i )

• Determine a 0 and a 1 in such a way that sum of the squared errors over all the
observations is minimized i.e.,
n
SS (a0=
, a1 ) ∑ [a X
i =1
0 i + a1 − Yi ]2
 • To minimize we need to determine partial derivative of SS with respect to a 0 and a 1
which gives following equation

 n  n

na1   Xi  a0   Yi  
 i1  i1

 n   n  n
 X  a   X2  a 
  
i 1 i  Xi Yi  
i1

  i1

 i1

• Equations (1) and (2) gives two linear equations in a o and a 1 , which can be solved to get
n n n
n Xi Yi   Xi  Yi
a1  i1 i1 i1

 
2
n n
n Xi 2
  Xi 
i1
 i1 
n

XY i i  n X .Y
a1  i1
n

 
2
 Xi2 n X
i1

where X and Y are the average of observations Xi and Yi respectively

a0  Y  a1 X

In the regression model

a o is the level component of forecast

a o is the trend component of forecast

Example

A software developer company wants to forecast the revenues for the next year. The
manager of the company wants to conduct casual analysis to analyze if the number of hours
spend by employee per day has impact on revenues. Manger collects data for past six years
and applied linear regression analysis in the following manner. Every year he/she kept on
increasing the number of working hours by one hour.

Number of hours Revenues earned

spend per day (Rs. 00000)
6 70

7 71.5

8 75

9 76.5

10 77.9

11 80.2

In this example, the dependent variable is revenues and the independent variable is number
of hours. We will apply least square method to following regression equation.

a 0= Y − a1 X

where,

Y is the average of revenues for last six years

X is the average of number of hours per day to get the forecast for next year with 12 hours

per day, represented by

= a + a (12)
Y 0 1

We need to determine a 0 and a 1

a 0= Y − a1 X

∑ X Y − nX Y i i
a1 = i =1
n

∑X
i =1
i
2
− n(X) 2

Yi Xi XiYi Xi2
70 6 420 36
71.5 7 500.5 49
75 8 600 64
76.5 9 688.5 81
77.9 10 779 100
80.2 11 882.5 121
Total 451.1 51 3870.2 451
Average 75.2 8.5 645 75.2

Here n=6

Y =75.2, X =8.5

∑X Y
i =1
i i = 3870.2

∑X
i =1
i
2
= 451

Substituting these values for a 0 and a 1 we will get

 3870.2 − (6) (8.5) (75.2)
a0 =
451 − (6) (8.5) 2
3870.2 − 3834.4
=
451 − 433.5
a1 = 2.05

a 0= Y − a1 X
= 75.2 − a1 X
= 57.8

The forecasted revenues for next year if number of working hours increased from 11 to 12
hours are

 57.8 + (2.05) (12)

=
Y
= 82.4