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Chapter four
Demand and demand forecasting
4.1. Introduction
Demand forecasting is predicting future demand for a product. The information regarding future demand
is essential for planning and scheduling production, purchase of raw materials, acquisition of finance and
advertising, it is much more important where a large-scale production is being planned and production
involves a long gestation period. The information regarding future demand is essential also confronted
with the question as to what would be the future demand for their product. For, they will have to acquire
inputs and plan their production accordingly: the firms are hence required to estimate the future demand
for their product. Otherwise, their functioning will be masked with uncertainty and their objective may be
defeated.
This problem may not be of a serious nature for the small firms which supply a very small fraction of total
demand, and whose product caters to the short-term, seasonal demand or to demand of a routine nature.
Their past experience and business skill may suffice for their purpose in planning and production. But, the
firms working on a large scale find extremely difficult to obtain fairly accurate information regarding
future market demand, in some situation, it is very difficult to obtain information needed make even
short-term demand forecasts, and extremely difficult to make long term forecasts or to determine how
changes in specific demand variables like price, advertisement expenditure, credit terms, prices of
competing products etc, will affect demand. It is nevertheless indispensable for the large firms to have at
least a rough estimate of the demand prospects. For demand forecast plays an important role in planning
to acquire inputs, men and material (raw material, and capital goods), organizing production, advertising
the product, and in organizing sales channels. These functions can hardly be performed satisfactorily in an
atmosphere of uncertainty regarding demand prospects for the product. The prior knowledge of market-
size becomes therefore an extremely important element of decision-making by the large scale firms.
The techniques of forecasting are many, but the choice of a suitable method is a matter of experience and
expertise. To a large extent, it depends also in the nature of the data available for the purpose. In
economic forecasting, classical methods use historical data in rather rigorous statistical manner for
making the future projections. There are also less formal methods where analyst’s own judgment plays a
greater part in picking, choosing and interpreting the available data than the statistical tools.
Information about demand is essential for making pricing and production decisions. Empirical estimates
of demand play pivotal role in making how many units of pa product to produce and what prices to charge
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for different products. In fact, it may not mean that forecasting of demand solves all of the management ’s
pricing problems. It can however, provide managers with valuable information about demand, which
should improve any manager’s price setting skills.
Forecasting techniques:
Section 1. Survey methods
Survey methods are generally used where purpose is to make short-run forecast of demand.
Under this method, surveys are conducted to collect information about consumers’ intentions and
their future purchase-plans. This method includes:
(i) Survey of potential consumers to elicit information on their intentions and plans; and
(ii) Opinion polling of experts, i.e., opinion survey of market experts and sales
representatives, and through market studies and experiments.
The following methods are used to conduct the survey of consumers and experts.
1.1. Consumer survey methods
The consumer survey method of demand forecasting involves direct interview of the
potential consumers. It may be in the form of complete enumeration, sample survey, or end-
use method. These consumer survey methods are used under different conditions and for
different purposes. Their advantages and disadvantages are described below.
1.1.1. Direct interview method: the most direct and simple way of assessing future demand
for a product is to interview the potential consumers or users and to ask them what
quantity of the product they would be willing to buy at different prices over a given
period, say, one year. This method is known as direct interview method. This method
may be done in three different ways. These are:
Complete enumeration method- in this method, almost all potential users of the product
are contacted and are asked about their future plan of purchasing the product in question.
The quantities indicated by the consumers are added together to obtain the probable
demand for the product. For example, if only n out of m number of households in a city
report the quantity (d) they are willing to purchase of a commodity, then total probable
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demand (D
p
) may be calculated as D
f
= d
1
+ d
2
+d
3
+ …+d
n
= where d
1
, d
2
, d
3
, etc,
denote demand by the individual households 1, 2, 3, etc.
This method has the following limitations:
It can be used successfully only in case of those products whose consumers are
concentrated in a certain region or locality. In case of a widely dispersed market, this
method may not be physically possible or may prove very costly in terms of both
money and time.
The demand forecast through this method may not be reliable for many reasons: (i)
consumers themselves may not be knowing their actual demand in future and hence
may be unable or unwilling to answer the query; (ii) even if they answer, their answer
to hypothetical questions may be only hypothetical, not real; (iii) consumers’
response may be biased according to their own expectations about the market
conditions ; and (iv) their plans may change with the change in factors not included in
the questionnaire.
Sample survey method- under this method, only a few potential consumers and users
selected from the relevant market through a sampling method are surveyed. Method of
survey may be direct interview or mailed questionnaire to the sampled-consumers. on the
basis of information obtained, the probable demand may be estimated through the
following formula: D
p
= H
R
/H
s
(H.A
D
) where D
p
= probable demand forecast; H =
census number of households from the relevant market;; H
s
=number of households
surveyed or sample households; H
R
= number of households reporting demand for the
product; A
D
= average expected consumption by the reporting households (total quantity
reported to be consumed by the reporting householdsnumber of households). This
method has the following merits;
It is simpler, less costly, and less time-consuming than the comprehensive survey
method;
It can generally be used to estimate short-term demand from business firms. Government
departments and agencies, and also by the households who plan their future purchase.
Business firms, government departments, and such other organization budget their
=
n
i
di
1
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expenditure at least for one year in advance. It is therefore possible for them to supply a
fairly reliable estimate of their future purchases. Even the households making annual or
periodic budget of their expenditure can provide reliable information about purchases.
It can be used to verify the demand forecast made by using quantitative or statistical
methods. Although some authors suggest that this method should be used to supplement
the quantitative method for forecasting rather than to replace it, this method can be
gainfully used where market area is localized. Sample survey method can be of greater
use in forecasting where quantification of variables (e.g. feelings, opinion, expectations,
etc.) is not possible and where consumer’s behavior is subject to frequent changes.
This method, however, has some limitations similar to those of complete
enumerations or exhaustive survey method. The forecaster therefore should not
attribute reliability to the forecast more than warranted.
c. The End-use method- the end-use method of demand forecasting has considerable
amount of both theoretical and practical values. Making forecasts by this method requires
building up a schedule of probable aggregate demand for inputs in future by consuming
industries and various sectors. In this method, technological, structural and other changes,
which might influence the demand, are taken care of in the very process of estimation.
This aspect of the end-use approach is of particular importance. The end-use method of
demand forecasting consists of four distinct stages of estimation.
Stage 1: identifying and listing all the possible users of the product in question. This is a
difficult process, but it is fundamental to this method of forecasting. Difficulty arises because
published data on the end-users are rarely available. Dispatch records of the manufacturing,
even if available, need not necessarily enumerate all the final uses. Records of the sales
pattern by individual firms or establishments are difficult to be assembled. In several case,
the distribution of the products covers such a wide network and there are so many wholesale
and retail agencies in the chain, that it would be virtually impossible to organize and collect
the data from all these sources so as to know all final end-uses of the product.
Where there is lack of data, the managers need to have a thorough knowledge of the product
and its uses. Such knowledge comes generally with experience. manager’s own knowledge
and experience need to be supplemented by consultations and discussions with manufacturers
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or their association , traders, users, etc, preparation of an exhaustive list of all possible end-
uses is in any case a necessary step. Despite every effort made to trace all the end-uses. It is
quite likely that some of the current uses of the product are overlooked. In order ot account
for such lapses, it may be necessary at the final stage of estimation to provide some margin.
A margin or allowance is also necessary to provide for possible new applications of the
product in future.
Stage 2: fixing suitable technical ‘norms’ of consumption of the product under study. Norms
have to be established for each and every end-use. norms are usually expressed in physical
terms either per unit of production or the complete product per in some cases, per unit of
investment, per capita, etc, sometimes , the norm may have to be on value basis. But the
value-based norms should be avoided as far as possible because it might be rather difficult to
specify later the types and sizes of the product in question if value norms are used.
The establishment of norms is also a difficult process mainly due to lack of data. For
collecting necessary data, questionnaire method is generally employed. The preparation of a
suitable questionnaire is of vital importance in the end-use method, as all subsequent analysis
has to flow mainly from the information collected through the questionnaires. Where
estimating the future demand is called for great detail, such as by types and sizes of the
concerned product, framing of the questionnaire requires a good knowledge of all the
variables of the product. For a reliable forecast, it is necessary that response is total, if not
then as high as possible.
Stage 3: apply the norms, having established the technical norms of consumption for the
different industries and other end-uses of the product; the third step is the application of the
norms. For this purpose, it is necessary to know the desire or targeted level of output of the
individual industries for the reference year and also the likely development in other economic
activities which use the product and the likely output targets.
Stage 4: Aggregate the product-wise or use-wise content of the item for which the demand is
to be forecast. This aggregate result gives the estimate of demand for the product as a whole
for the terminal year in question.
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- By the very nature of the process of estimation described here, it is obvious that the end-
use approach results in what may be termed as a “derived demand “.
The end-use method has two exclusive advantages.
- It is possible to spell out the future demand for an industrial product in considerable
detail by types and size. In other methods, the future demand can be estimated only at
aggregate levels. This is because past data are seldom available in such details as to
provide the types and sizes of the product demanded by the economy. Hence, projections
made by using the past data, either by the trend method, regression techniques or by
historical analogies produce only aggregate figures for the product in question. On the
other hand, by probing into the present use-pattern of consumption of the product. The
end-use approach affords every opportunity to determine the types, categories and sizes
likely to be demanded in future.
- In forecasting demand by the end-use approach, it is possible to trace and pinpoint at any
time in future as to where and why the actual consumption has deviated from the
estimated demand. Besides, suitable revisions can also be made from time to time based
on such examination. If projections are based on other methods, and if actual
consumption falls below or rises above the estimated demand, all that one can say is that
the economy has or has not picked up as anticipated. One cannot say exactly which use of
the product has not picked up. In case of end-use method, one can.
1.2.Opinion poll methods
The opinion poll methods aim at collecting opinions of those who are supposed to posses
knowledge of the market. E.g. sales representatives ,sales executives , profession marketing
experts and consultants. The opinion poll methods include such methods as expert-opinion
method, Delphi method , market studies and experiments , and expert-opinion method.
1.2.1. Expert-opinion method: firms having a good network of sales representative scan ask
them to assess the demand for the product in the areas, regions, and cities they represent.
Sales representatives, being in close touch with the consumers or users of the goods, are
supposed to know the future purchase-plans of their customers. Their reaction to the
market changes and to the introduction of a new product, and the demand for competing
products. They are therefore in a position to provide at least an approximate, if not
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accurate, estimate of likely demand in their region or area. The estimates of demand thus
obtained from different regions are added up together to get the overall probable demand
for a product. Firms not having this ability, gather similar information about the demand
for their products through the professional market experts or consultants, who can,
through their experience and expertise, predict the future demand. this method is also
known as expert opinion poll method.
Although this method too is simple and inexpensive, it has its own limitations.
Estimates provided by sales representatives or professional experts are reliably
only to the extent of their skill to analyze the market and their experience.
Demand estimates may involve the subjective judgment of the assessor, which
may lead over or underestimation,
The assessment of market demand is usually based on inadequate information
available to the sales representatives since they have only a narrow view of the
market. The factors of wider implication, such as change in Gross National
Product (GNP) , availability of credit, future prospects of the industry ,etc, fall
outside their purview.
1.2.2. Delphi method: Delphi method of demand forecasting is an extension of the simple
expert opinion poll method. This method is used to consolidate the divergent expert
opinions and to arrive at a compromise estimate of future demand. The process is simple.
Under Delphi method, the experts are provided information on estimates of forecasts of
other experts along with the underlying assumptions. The experts may revise estimates in
the light of forecasts made by other experts. The consensus of experts about the forecasts
constitutes the final forecast.
1.2.3. Market studies and experimentation: An alternative method of collecting necessary
information regarding demand is to cary out market studies and experiments in
consumer’s behavior under actual, though controlled, market conditions, this method is
known in common parlance as market experiment method. Under this method, firms first
select some areas of the representative markets- three or four cities having similar
features, viz., population, income levels, cultural and social background, occupational
distribution, choices and preferences of consumers. Then, they carry out market
experiments by changing prices, advertisement expenditure, and other controllable
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