Importance and Limitations of Demand Forecasting

By | April 25, 2022

Demand forecasting is an essential tool for a company to get information about future demand of a product. It saves a company from the problem of over or under production. Here, we have discussed about almost every aspects of demand forecasting such as concept of demand forecasting, importance and limitations of demand forecasting, steps in demand forecasting and methods of demand forecasting etc.

Importance and Limitations of Demand Forecasting

Demand forecasting is a crucial function in the supply chain. It helps to understand what products will be needed, and when they will be needed. Before understanding the importance and limitations of demand forecasting, first let’s have a look at it’s concept.

Meaning and Concept of Demand Forecasting

Demand forecasting refers to the prediction of future demand of a product on the basis of statistical data and empirical relationship of the determinants of demand.

It is trying to know and get information about possible future needs of a products by consumers so that the company can be pre-ready for the production and supply of that product.

Demand forecasting is essential for estimation and purchase of raw materials, planning and scheduling of production estimation of production budget.

How much to produce a product, what price to set, how much to spend on advertising, these all decisions are somehow based on the information regarding demand forecasting of a product.

Levels of Demand Forecasting

  • Micro Level Demand Forecasting : – It refers to the demand forecasting for an individual product by an individual business firm.
  • Industry Level Demand Forecasting : – It refers to the demand forecasting for the product of the industry as a whole
  • Macro Level Demand Forecasting : – It is forecasting of total demand for the industrial output by the nation.

Why You Need to Study About Demand Forecasting

Demand forecasting is an important part of the process of inventory management. Demand forecasting can also help companies to make strategic decisions about their production and marketing plans.

There are many reasons why one should study demand forecasting:

-To understand how demand for a product or service changes over time

-To estimate how much inventory should be on hand at any given time

-To predict how much of a product or service is likely to be sold in the future

Importance of Demand Forecasting

1. Predicting Sales of a Firm

On the basis of demand forecasting of a product, the possible future sales of a product can easily be predicted. Prediction of demand means the prediction of sales because if demand increases then sales increases and if demand decreases then sales also decreases.

So, demand forecasting and sales forecasting are inter-connected to each other.

2. Raw Materials Arrangement

Demand forecasting estimates the possible future production and sales of a product. This helps in the proper arrangement of raw material in adequate quantity and exact time.

Demand forecasting predetermines how much materials at what time will be required for the production of a specific product to meet the need and requirement of consumers.

3. Arrangement of Labor

Demand forecasting also helps a firm in determining future labor requirements. It helps to analyze the possible future work load and work pressure so that pre-arrangement of qualitative for a specific time period can done properly.

Due to demand forecasting, right number of labor for the right time at right place can be easily arranged.

4. Capital Expansion Plan

Forecasting of demand and future production helps a firm to pre-determines future capital requirements. On the basis of these forecasts, a firm become able to make pre-arrangement of all future financial requirements.

Businesses generally make arrangement of funds by taking loan from banks and financial institutions.

5. Investment and Inventory Policy

Demand forecasting also helps in the forecasting of future price trends of a product. This helps a firm to determine its investment and inventory policy.

For example; if there is chances of rise in the price of a product in future then the firm will be more interested in maintaining more inventories and if there is any possibility of price decline in future the firm will be more interested in maintaining minimum level of stock.

6. Production Planning

Demand forecasting means forecasting of possible future consumer’s demand and need. So, it plays a very important role in preparing production plan for a product.

It estimates the exact need of a product output in coming days to meet the demand of a product. It eliminates the problem of over production and under production that may arise due to improper production planning.

Steps in Demand Forecasting

  1. Step 1: Identification of Objective
  2. Step 2: Determining The Determinants of Demand
  3. Step 3: Collection of Data
  4. Step 4: Selecting a Proper Method of Forecasting
  5. Interpretation of Results and Present the Findings
Importance and Limitations of Demand Forecasting

Limitations of Demand Forecasting

Demand forecasting is based on assumptions and approximations. Changes in situation may bring changes in these forecasts.

So, demand forecasting also have some limitations which are discussed as below:

1. Use of Techniques

The accuracy of demand forecasting depends more on the techniques used for it. The forecast is generally done on the basis of assumptions that there is definite relationship among economic variables.

So, if the assumption is wrong, it may cause demand forecasting error.

2. Economic Error

The changes in economic variables occur due to changes in situation, economic and political factors. Because of these changes, the formulation of relationship between economic variables may occur.

This may result in economic error which directly affect the demand forecasting.

3. Measurability of Phenomenon

Some phenomenon are very difficult to measure and collect such as fashion, attitudes of consumers, whether etc. The error in such measurement may create problem in demand forecasting.

4. Statistical Error

There are many reasons that may cause statistical error such as unrepresentative sample size, defective sample, negligence of person who compile data etc.

These types of statistical error directly affects the accuracy of demand forecasting.

5. Durability of Goods

The demand forecasting of durable goods maybe less accurate because there is very little replacement demand for such goods.

The incidences like war, depression, invention etc. can create changes in demand which is definitely not good for accurate forecasting.

Methods/ Techniques of Demand Forecasting

A. Qualitative or Non- Statistical Methods

  • Survey Method
  • Market Experiment

B. Quantitative or Statistical Methods

  • Time Series Analysis
  • Moving Average Method
  • Regression Analysis
  • Barometric Technique

So, this is all about our today’s discussion. In this article, I have given main focus on the importance and limitations of demand forecasting.

I hope, you have found it informative. If you have any suggestion, you can put it in the comment section below. Thank You!

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