MODULE 4 – DEMAND FORECASTING 1

MODULE 4 – DEMAND FORECASTING

INTRODUCTION

A forecast is a prediction of future events used for planning purposes. Planning, on the other hand, is the process
of making management decisions on how to deploy resources to best respond to the demand forecasts. Forecasting
methods may be based on mathematical models that use available historical data, or on qualitative methods that draw on
managerial experience and judgments, or on a combination of both.

Forecasts are useful for both managing processes and managing supply chains. At the supply chain level, a firm
needs forecasts to coordinate with its customers and suppliers. At the process level, output forecasts are needed to design
the various processes throughout the organization, including identifying and dealing with in-house bottlenecks.

In this module, our focus is on demand forecasts. We begin with different types of demand patterns. We examine
forecasting methods in three basic categories: (1) judgment, (2) causal, and (3) time-series methods. Forecast errors are
defined, providing important clues for making better forecasts. We next consider the forecasting techniques themselves,
and then how they can be combined to bring together insights from several sources.

MODULE CONTENTS:

The organization-wide forecasting process cuts across functional areas. Forecasting overall demand typically
originates with marketing, but internal customers throughout the organization depend on forecasts to formulate and execute
their plans as well. Forecasts are critical inputs to business plans, annual plans, and budgets.

LESSON 4.1: Overview of Forecasting

Forecast is a statement about the future

• It assumes a causal system i.e. future resembles the past
• They are rarely perfect because of randomness
• They are more accurate for groups vs. individuals (Forecasting errors among items in a group usually have a
canceling effect)
• Forecast accuracy decreases as time horizon for forecasts increases
Elements of a Good Forecast:
• Timely
• Reliable
• Accurate
• Meaningful
• Written
• Easy to Use
Steps in the Forecasting Process
1. Determine purpose of forecast
2. Establish a time horizon
3. Select a forecasting technique
4. Gather and analyze data
5. Prepare the forecast
6. Monitor the forecast

Demand Patterns
Forecasting demand in some situations requires uncovering the underlying patterns from available information. The
repeated observations of demand for a service or product in their order of occurrence form a pattern known as a time series.
There are five basic patterns of most demand time series:
1. Horizontal. The fluctuation of data around a constant mean.
2. Trend. The systematic increase or decrease in the mean of the series over time.

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3. Seasonal. A repeatable pattern of increases or decreases in demand, depending on the time of day, week, month,
or season.
4. Cyclical. The less predictable gradual increases or decreases in demand over longer periods of time (years or
decades).
5. Random. The unforecastable variation in demand.

Figure 1. Demand Patterns (Krajewski, Ritzman, and Malhotra 2016)

Key Decisions on Making Forecasts

Before using forecasting techniques, a manager must make two decisions:
1. Deciding What to Forecast - Although some sort of demand estimate is needed for the individual services or
goods produced by a company, forecasting total demand for groups or clusters and then deriving individual service
or product forecasts may be easiest. Also, selecting the correct unit of measurement (e.g., service or product units
or machine-hours) for forecasting may be as important as choosing the best method.
2. Choosing the Type of Forecasting Technique - The forecaster’s objective is to develop a useful forecast from
the information at hand with the technique that is appropriate for the different patterns of demand. Two general
types of forecasting techniques are used: judgment methods and quantitative methods.
• Judgmental - Subjective analysis of subjective inputs
• Causal Methods – Analyzes historical data to reveal relationships between (easily or in advance) observable
quantities and forecast quantities. Uses this relationship to make predictions.
• Time series – Objective analysis historical data assuming the future will be like the past

LESSON 4.2: Forecasting Techniques / Methods

Forecasting systems offer a variety of techniques, and no one of them is best for all items and situations. The
forecaster’s objective is to develop a useful forecast from the information at hand with the technique that is appropriate for
the different patterns of demand.
Judgmental Forecasting
Forecasts from quantitative methods are possible only when there is adequate historical data, (i.e., the history file).
However, the history file may be nonexistent when a new product is introduced or when technology is expected to change.
In some cases, judgment methods are the only practical way to make a forecast. In other cases, judgment methods can

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also be used to modify forecasts that are generated by quantitative methods. Four of the more successful judgment methods
are as follows:
1. Salesforce estimates are forecasts compiled from estimates made periodically by members of a company’s
salesforce. The salesforce is the group most likely to know which services or products customers will be buying in
the near future and in what quantities.
2. Executive opinion is a forecasting method in which the opinions, experience, and technical knowledge of one or
more managers or customers are summarized to arrive at a single forecast. All of the factors going into judgmental
forecasts would fall into the category of executive opinion. Executive opinion can also be used for technological
forecasting.
3. Market research is a systematic approach to determine external consumer interest in a service or product by
creating and testing hypotheses through data-gathering surveys. Although market research yields important
information, it typically includes numerous qualifications and hedges in the findings.
4. The Delphi method is a process of gaining consensus from a group of experts while maintaining their anonymity.
This form of forecasting is useful when no historical data are available from which to develop statistical models and
when managers inside the firm have no experience on which to base informed projections

Causal Methods: Linear Regression

Causal methods are used when historical data are available and the relationship between the factor to be forecasted
and other external or internal factors (e.g., government actions or advertising promotions) can be identified. These
relationships are expressed in mathematical terms and can be complex.
In linear regression, one variable, called a dependent variable, is related to one or more independent variables by
a linear equation. The dependent variable (such as demand for door hinges) is the one the manager wants to forecast. The
independent variables (such as advertising expenditures and new housing starts) are assumed to affect the dependent
variable and thereby “cause” the results observed in the past.
In the simplest linear regression models, the dependent variable is a function of only one independent variable and,
therefore, the theoretical relationship is a straight line: Y = a + bX, where, Y = dependent variable; X = independent variable;
a = Y-intercept of the line; and b = slope of the line
The sample correlation coefficient, r, measures the direction and strength of the relationship between the
independent variable and the dependent variable. A correlation coefficient of +1.00 implies that period-by-period changes
in direction (increases or decreases) of the independent variable are always accompanied by changes in the same direction
by the dependent variable. An r of -1.00 means that decreases in the independent variable are always accompanied by
increases in the dependent variable, and vice versa. A zero value of r means no linear relationship exists between the
variables. The closer the value of r is to { 1.00, the better the regression line fits the points.
The sample coefficient of determination measures the amount of variation in the dependent variable about its
mean that is explained by the regression line. The coefficient of determination is the square of the correlation coefficient, or
R-squared. The value of R-squared ranges from 0.00 to 1.00. Regression equations with a value of R-squared close to
1.00 mean a close fit.

Figure 2. Regression Analysis Chart (Krajewski, Ritzman, and Malhotra 2016)

Time-Series Methods
These methods are based on the assumption that the dependent
variable’s past pattern will continue in the future. Time-series analysis identifies
the underlying patterns of demand that combine to produce an observed
historical pattern of the dependent variable and then develops a model to
replicate it.

Method #1: Naïve Forecasting

A method often used in practice is the naïve forecast, whereby the
forecast for the next period (Ft+1) equals the demand for the current period (Dt).
So if the actual demand for Wednesday is 35 customers, the forecasted demand
for Thursday is 35 customers. Despite its name, the naïve forecast can perform well.

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The naïve forecast method also may be used to account for seasonal patterns. If the demand last July was 50,000
units, and assuming no underlying trend from one year to the next, the forecast for this July would be 50,000 units.

Method #2: Simple Moving Average

The simple moving average method simply involves calculating the average demand for the n most recent time
periods and using it as the forecast for future time periods. For the next period, after the demand is known, the oldest
demand from the previous average is replaced with the most recent demand and the average is recalculated. In this way,
the n most recent demands are used, and the average “moves” from period to period.
Specifically, the forecast for period t + 1 can be calculated at the end of period t (after the actual demand for period
t is known) as

Method #3: Weighted Moving Average

In the simple moving average method, each demand has the same weight in the average—namely, 1/n. In the
weighted moving average method, each historical demand in the average can have its own weight. The sum of the weights
equals 1.0. For example, in a three-period weighted moving average model, the most recent period might be assigned a
weight of 0.50, the second most recent might be weighted 0.30, and the third most recent might be weighted 0.20. The
average is obtained by multiplying the weight of each period by the value for that period and adding the products together.
The advantage of a weighted moving average method is that it allows you to emphasize recent demand over earlier
demand. (It can even handle seasonal effects by putting higher weights on prior years in the same season.) The forecast
will be more responsive to changes in the underlying average of the demand series than the simple moving average forecast.

Method #4: Exponential Smoothing

The exponential smoothing method is a sophisticated weighted moving average method that calculates the average
of a time series by implicitly giving recent demands more weight than earlier demands, all the way back to the first period in
the history file. It is the most frequently used formal forecasting method because of its simplicity and the small amount of
data needed to support it. Unlike the weighted moving average method, which requires n periods of past demand and n
weights, exponential smoothing requires only three items of data: (1) the last period’s forecast; (2) the actual demand for
this period; and (3) a smoothing parameter, alpha (a), which has a value between 0 and 1.0. The equation for the
exponentially smoothed forecast for period t + 1 is calculated

The emphasis given to the most recent demand levels can be adjusted by changing the smoothing parameter.
Larger alpha values emphasize recent levels of demand and result in forecasts more responsive to changes in the
underlying average. Smaller alpha values treat past demand more uniformly and result in more stable forecasts.

Method #5: Seasonal Patterns

Seasonal patterns are regularly repeating upward or downward movements in demand measured in periods of less
than one year (hours, days, weeks, months, or quarters). In this context, the time periods are called seasons.
The multiplicative seasonal method uses an estimate of average demand which is multiplied by seasonal factors to
arrive at a seasonal forecast. The four-step procedure presented here involves the use of simple averages of past demand,
although more sophisticated methods for calculating averages, such as a moving average or exponential smoothing
approach, could be used. The following description is based on a seasonal pattern lasting one year and seasons of one
month, although the procedure can be used for any seasonal pattern and season of any length:

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1. For each year, calculate the average demand per season by dividing annual demand by the number of seasons
per year.
2. For each year, divide the actual demand for a season by the average demand per season. The result is a seasonal
index for each season in the year, which indicates the level of demand relative to the average demand. For example,
a seasonal index of 1.14 calculated for April implies that April’s demand is 14 percent greater than the average
demand per month.
3. Calculate the average seasonal index for each season, using the results from step 2. Add the seasonal indices for
a season and divide by the number of years of data.
4. Calculate each season’s forecast for next year. Begin by forecasting next year’s annual demand using the naïve
method, moving averages, exponential smoothing, or trend projection with regression. Then, divide annual demand
by the number of seasons per year to get the average demand per season. Finally, make the seasonal forecast by
multiplying the average demand per season by the appropriate seasonal index found in step 3.

LESSON 4.3: Choosing a Quantitative Forecasting Method

Forecast Accuracy
Forecast error measures provide important information for choosing the best forecasting method for a service or
product. They also guide managers in selecting the best values for the parameters needed for the method: n for the moving
average method, the weights for the weighted moving average method, alpha for the exponential smoothing method, and
when regression data begins for the trend projection with regression method. The criteria to use in making forecast method
and parameter choices include (1) minimizing bias (CFE); (2) minimizing MAPE, MAD, or MSE; (3) maximizing R-squared
; (4) meeting managerial expectations of changes in the components of demand; and (5) minimizing the forecast errors in
recent periods.

Forecast error for a given period t is simply the difference found by subtracting the forecast from actual demand, or

The cumulative sum of forecast errors (CFE) measures the total forecast error. CFE is also called the bias error
and results from consistent mistakes—the forecast is always too high or too low. This type of error typically causes the
greatest disruption to planning efforts.

The average forecast error, sometimes called the mean bias, is simply

The mean squared error (MSE), standard deviation of the errors (s), and mean absolute deviation (MAD) measure
the dispersion of forecast errors attributed to trend, seasonal, cyclical, or random effects:

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If MSE, sigma, or MAD is small, the forecast is typically close to actual demand; by contrast, a large value indicates
the possibility of large forecast errors. The measures do differ in the way they emphasize errors. Large errors get far more
weight in MSE and sigma because the errors are squared. MAD is a widely used measure of forecast error and is easily
understood; it is merely the mean of the absolute forecast errors over a series of time periods, without regard to whether
the error was an overestimate or an underestimate.
The mean absolute percent error (MAPE) relates the forecast error to the level of demand and is useful for putting
forecast performance in the proper perspective:

Principles for the Forecasting Process

1. Better processes yield better forecasts.
2. Demand forecasting is being done in virtually every company, either formally or informally. The challenge is to do it
well—better than the competition.
3. Better forecasts result in better customer service and lower costs, as well as better relationships with suppliers and
customers.
4. The forecast can and must make sense based on the big picture, economic outlook, market share, and so on.
5. The best way to improve forecast accuracy is to focus on reducing forecast error
6. Bias is the worst kind of forecast error; strive for zero bias.
7. Whenever possible, forecast at more aggregate levels. Forecast in detail only where necessary.
8. Far more can be gained by people collaborating and communicating well than by using the most advanced
forecasting technique or model.

MODULE 5 – CAPACITY PLANNING AND OPERATIONS SCHEDULING

INTRODUCTION

Capacity is the maximum rate of output of a process or a system. Managers are responsible for ensuring that the
firm has the capacity to meet current and future demand. Acquisition of new capacity requires extensive planning, and often
involves significant expenditure of resources and time. Capacity decisions must be made in light of several long-term issues
such as the firm’s economies and diseconomies of scale, capacity cushions, timing and sizing strategies, and trade-offs
between customer service and capacity utilization.

Operations planning and scheduling is the process of making sure that demand and supply plans are in balance,
from the aggregate level down to the short-term scheduling level. It also lies at the core of supply chain integration, around
which plans are made up and down the supply chain, from supplier deliveries to customer due dates and services.

This module focuses on how managers can best revise capacity levels and best determine when to add or reduce
capacity for the long term. The type of capacity decisions differ for different time horizons. This module will also discuss the
two major parts of the overall planning and scheduling process: (1) sales and operations planning and (2) scheduling.

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MODULE CONTENTS:

Capacity decisions have implications for different functional areas throughout the organization. Accounting needs
to provide the cost information needed to evaluate capacity expansion decisions. Finance performs the financial analysis of
proposed capacity expansion investments and raises funds to support them. Marketing provides demand forecasts needed
to identify capacity gaps. Operations is involved in the selection of capacity strategies that can be implemented to effectively
meet future demand. Purchasing facilitates acquisition of outside capacity from suppliers. Finally, human resources focuses
on hiring and training employees needed to support internal capacity plans. Additionally, a capacity decision is very
important for a company due to the following reasons: a) it impacts ability to meet future demands; b) it affects operating
costs; c) it is a major determinant of initial costs; d) it involves long-term commitment, e) it affects competitiveness, and
lastly, it affects ease of management
Capacity is the upper limit or ceiling on the load that an operating unit can handle. It is the capability of a
manufacturing or service resource such as a facility, process, workstation, or piece of equipment to accomplish its purpose
over a specified time period. The basic questions in capacity handling are: a) What kind of capacity is needed? b) How
much is needed? and c) When is it needed?
On the other hand, operations planning and scheduling is meaningful for each organization along the supply chain.
While scheduling is important for both service and manufacturing processes. Whether the business is an airline, hotel,
computer manufacturer, or university, schedules are a part of everyday life. Schedules involve an enormous amount of
detail and affect every process in a firm.

LESSON 5.1: Planning Long-Term Capacity

Long-term capacity plans deal with investments in new facilities and equipment at the organizational level, and
require top management participation and approval because they are not easily reversed. These plans cover at least two
years into the future, but construction lead times can sometimes be longer and result in longer planning time horizons.

Measures of Capacity and Utilization

No single capacity measure is best for all situations. In general, capacity can be expressed in one of two ways: in
terms of output measures or input measures. Here are some important concepts in this topic:
• Output Measures of Capacity - Output measures of capacity are best utilized when applied to individual processes
within the firm, or when the firm provides a relatively small number of standardized services and products. However,
many processes produce more than one service or product. As the amount of customization and variety in the
product mix increases, output based capacity measures become less useful
• Input Measures of Capacity - Input measures are generally used for low-volume, flexible processes, such as those
associated with a custom furniture maker. In this case, the furniture maker might measure capacity in terms of
inputs such as number of workstations or number of workers. The problem with input measures is that demand is
invariably expressed as an output rate. Output measures may be insufficient in the following situations:
• Product variety and process divergence is high.
• The product or service mix is changing.
• Productivity rates are expected to change.
• Significant learning effects are expected.
• Utilization - Utilization is the degree to which a resource such as equipment, space, or the workforce is currently
being used, and is measured as the ratio of average output rate to maximum capacity (expressed as a percent).
• Design capacity is the maximum obtainable output.
• Effective capacity with expected variations is the maximum capacity subject to planned and expected variations
such as maintenance, coffee breaks, scheduling conflicts
• Actual output, with unexpected variations and demand, is the rate of output actually achieved--cannot exceed
effective capacity. It is subject to random disruptions: machine break down, absenteeism, material shortage and
most importantly the demand
• The formula to be used for this concepts are the following:
• Utilization = Actual Output / Design Capacity
• Efficiency = Actual Output / Effective Capacity

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Economies of Scale
Deciding on the best level of capacity involves consideration for the efficiency of the operations. A concept known
as economies of scale states that the average unit cost of a service or good can be reduced by increasing its output rate.
Four principal reasons explain why economies of scale can drive costs down when output increases:
1. Spreading Fixed Costs - In the short term, certain costs do not vary with changes in the output rate. When the
average output rate—and, therefore, the facility’s utilization rate—increases, the average unit cost drops because
fixed costs are spread over more units.
2. Reducing Construction Costs - Certain activities and expenses are required to build small and large facilities
alike: building permits, architects’ fees, and rental of building equipment. Doubling the size of the facility usually
does not double construction costs.
3. Cutting Costs of Purchased Materials - Higher volumes can reduce the costs of purchased materials and
services. They give the purchaser a better bargaining position and the opportunity to take advantage of quantity
discounts.
4. Finding Process Advantages - High-volume production provides many opportunities for cost reduction. At a higher
output rate, the process shifts toward a line process, with resources dedicated to individual products.

Furthermore, a focused factory is a way to achieve economies of scale without extensive investments in facilities
and capacity by focusing on a narrow range of goods or services, target market segments, and/or dedicated processes to
maximize efficiency and effectiveness.

Diseconomies of Scale
Bigger is not always better, however. At some point, a
facility can become so large that diseconomies of scale set in;
that is, the average cost per unit increases as the facility’s size
increases. The reason is that excessive size can bring
complexity, loss of focus, and inefficiencies that raise the
average unit cost of a service or product.

Figure 3. Economies and Diseconomies of Scale (Krajewski,

Ritzman, and Malhotra 2016)

LESSON 5.2: A Systematic Approach to Long-Term Capacity Decisions

Long-term decisions for capacity would typically include whether to add a new plant or warehouse or to reduce the
number of existing ones, how many workstations a given department should have, or how many workers are needed to
staff a given process. Some of these decisions can take years to become operational. Hence, a systematic approach is
needed to plan for longterm capacity decisions.

Step 1: Estimate Capacity Requirements

A process’s capacity requirement is what its capacity should be for some future time period to meet the demand of
the firm’s customers (external or internal), given the firm’s desired capacity cushion. Long-term capacity plans need to
consider more of the future (perhaps, a whole decade) than do short-term plans. Unfortunately, the further ahead you look,
the more chance you have of making an inaccurate forecast.

Furthermore, another principle to consider in the capacity requirements is the safety capacity (often called the capacity
cushion) is an amount of capacity reserved for unanticipated events, such as demand surges, materials shortages, and
equipment breakdowns. The formula for safety capacity is:
Average safety capacity (%) = 100% − Average resource utilization %

Step 2: Identify Gaps

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A capacity gap is any difference (positive or negative) between projected capacity requirements (M) and current
capacity. Complications arise when multiple operations and several resource inputs are involved. Expanding the capacity
of some operations may increase overall capacity.

Step 3: Develop Alternatives

The next step is to develop alternative plans to cope with projected gaps. One alternative, called the base case, is
to do nothing and simply lose orders from any demand that exceeds current capacity or incur costs because capacity is too
large. Other alternatives if expected demand exceeds current capacity are various timing and sizing options for adding new
capacity. Additional possibilities include expanding at a different location and using short-term options, such as overtime,
temporary workers, and subcontracting. Alternatives for reducing capacity include the closing of plants or warehouses,
laying off employees, or reducing the days or hours of operation. Other alternatives include the following:
• Design flexibility into systems (modular expansion)
• Take a “big picture” approach to capacity changes (hotel rooms, car parks, restaurant seats)
• Differentiate new and mature products (pay attention to the life cycle, demand variability vs. discontinuation)
• Prepare to deal with capacity “chunks” (no machine comes in continuous capacities)
• Attempt to smooth out capacity requirements (complementary products, subcontracting)
• Identify the optimal operating level (facility size)

Long term Capacity Strategies

• Complementary goods and services can be produced or delivered using the same resources available to the
firm, but whose seasonal demand patterns are out of phase with each other.

Short-term Capacity Adjustment

• Add or share equipment: lease equipment as needed or set up a partnership arrangement with capacity sharing.
Examples: mainframe computers, CAT scanner, farm equipment.
• Sell unused capacity: sell idle capacity to outside buyers and even competitors. Examples: computing capacity,
perishable hotel rooms.
• Change labor capacity and schedules: short term changes in work force levels. Examples: overtime, extra shifts,
temporary employees, outsourcing.
• Change labor skill mix: hiring the right people.
• Shift work to slack periods
• Vary the price of goods or services: price is the most powerful way to influence demand.
• Provide customers information: best times to call or visit.
• Advertising and promotion: a vital role on influencing demand; promotions are strategically distributed to increase
demand during periods of low sales or excess capacity.
• Add peripheral goods and/or services: change demand during slack periods.
• Provide reservations: a promise to provide a good or service at some future time and place.

Step 4: Evaluate the Alternatives

In this final step, the manager evaluates each alternative, both qualitatively and quantitatively:

1. Qualitative Concerns - Qualitatively, the manager looks at how each alternative fits the overall capacity strategy
and other aspects of the business not covered by the financial analysis. Of particular concern might be uncertainties
about demand, competitive reaction, technological change, and cost estimates. Some of these factors cannot be
quantified and must be assessed on the basis of judgment and experience. Qualitative factors would tend to
dominate when a business is trying to enter new markets or change the focus of its business strategy.
2. Quantitative Concerns - Quantitatively, the manager estimates the change in cash flows for each alternative over
the forecast time horizon compared to the base case. Cash flow is the difference between the flows of funds into
and out of an organization over a period of time, including revenues, costs, and changes in assets and liabilities.
LESSON 5.3: Tools for Capacity Planning

Capacity planning requires demand forecasts for an extended period of time. Unfortunately, forecast accuracy
declines as the forecasting horizon lengthens. In addition, anticipating what competitors will do increases the uncertainty of

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demand forecasts. Demand during any period of time may not be evenly distributed; peaks and valleys of demand may
(and often do) occur within the time period.
Waiting-Line Models
Waiting-line models often are useful in capacity planning, such as selecting an appropriate capacity cushion for a
high customer-contact process. Waiting lines tend to develop in front of a work center, such as an airport ticket counter, a
machine center, or a central computer. The reason is that the arrival time between jobs or customers varies, and the
processing time may vary from one customer to the next. Waiting-line models use probability distributions to provide
estimates of average customer wait time, average length of waiting lines, and utilization of the work center. Managers can
use this information to choose the most cost-effective capacity, balancing customer service and the cost of adding capacity.

Simulation
More complex waiting-line problems must be analyzed with simulation. It can identify the process’s
bottlenecks and appropriate capacity cushions, even for complex processes with random demand patterns and
predictable surges in demand during a typical day.
Decision Trees
A decision tree can be particularly valuable for evaluating different capacity expansion alternatives when
demand is uncertain and sequential decisions are involved.

Figure 4. Decision Tree (Krajewski, Ritzman, and Malhotra 2016)

LESSON 5.4: Stages in Operations Planning and Scheduling

Aggregation
The sales and operations plan is useful because it focuses on a general course of action, consistent with the company’s
strategic goals and objectives, without getting bogged down in details. A company’s managers must determine whether
they can satisfy budgetary goals without having to schedule each of the company’s thousands of products and employees
individually. While schedules with such detail are the goal, the operations planning and scheduling process begins at the
aggregate level. In general, companies perform aggregation along three dimensions:
1. Product Families - A group of customers, services, or products that have similar demand requirements and
common process, workforce, and materials requirements is called a product family. Sometimes, product families
relate to market groupings or to specific processes. Common and relevant measurements should be used.
2. Workforce - A company can aggregate its workforce in various ways as well, depending on its flexibility.
3. Time - The planning horizon covered by a sales and operations plan typically is one year, although it can differ in
various situations. the company looks at time in the aggregate—months, quarters, or seasons—rather than in
weeks, days, or hours
The figure below illustrates the relationships among the business or annual plan, sales and operations plan, and
detailed plans and schedules derived from it.

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Demand Options
Various options are available in managing demand, including complementary products, promotional pricing,
prescheduled appointments, reservations, revenue management, backlogs, backorders, and stockouts. The manager may
select one or more of them, as we illustrate below.
1. Complementary Products - One demand option for a company to even out the load on resources is to produce
complementary products, or services that have similar resource requirements but different demand cycles. The
key is to find services and products that can be produced with the existing resources and can level off the need for
resources over the year.
2. Promotional Pricing - Promotional campaigns are designed to increase sales with creative pricing. Lower prices
can increase demand for the product or service from new and existing customers, take sales from competitors, or
encourage customers to move up future buying. The first two outcomes increase overall demand, while the third
shifts demand to the current period.
3. Prescheduled Appointments - Service providers often can schedule customers for definite periods of order
fulfillment. With this approach, demand is leveled to not exceed supply capacity. An appointment system assigns
specific times for service to customers.
4. Reservations - Reservation systems, although quite similar to appointment systems, are used when the customer
actually occupies or uses facilities associated with the service. Managers can deal with no-shows with a blend of
overbooking, deposits, and cancellation penalties. Sometimes overbooking means that a customer with
reservations cannot be served as promised. In such cases, bonuses can be offered for compensation.
5. Revenue Management - Revenue management (sometimes called yield management) is the process of varying
price at the right time for different customer segments to maximize revenues generated from existing supply
capacity. It works best if customers can be segmented, prices can be varied by segment, fixed costs are high,
variable costs are low, service duration is predictable, and capacity is lost if not used.
6. Backlogs - Much like the appointments or reservations of service providers, a backlog is an accumulation of
customer orders that a manufacturer has promised for delivery at some future date. Firms that are most likely to
use backlogs—and increase the size of them during periods of heavy demand—make customized products and
tend to have a make-to-order strategy. Backlogs reduce the uncertainty of future production requirements and also
can be used to level demand. However, they become a competitive disadvantage if they get too big.
7. Backorders and Stockouts - A last resort in demand management is to set lower standards for customer service,
either in the form of backorders or stockouts. A backorder is a customer order that cannot be filled immediately

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but is filled as soon as possible. In contrast, a stockout is much the same, except that the order is lost and the
customer goes elsewhere. A backorder adds to the next period’s demand requirement, whereas a stockout does
not. Generally, backorders and stockouts are to be avoided.

Information Inputs
Information inputs are sought to create a plan that works for all. The figure below lists inputs from each functional
area. They must be accounted for to make sure that the plan is a good one and also doable. Such coordination helps
synchronize the flow of services, materials, and information through the supply chain to best balance supply with customer
demand.

Supply Options
Given demand forecasts, as modified by demand management choices, operations managers must develop a plan
to meet the demand, drawing from the supply options listed below:
1. Anticipation inventory – It can be used to absorb uneven rates of demand or supply. Moreover, when services
or products are customized, anticipation inventory is not usually an option. Service providers in the supply chain
generally cannot use anticipation inventory because services cannot be stocked.
2. Workforce Adjustment - Management can adjust workforce levels by hiring or laying off employees. The use of
this alternative can be attractive if the workforce is largely unskilled or semiskilled and the labor pool is large.
3. Workforce Utilization - An alternative to a workforce adjustment is a change in workforce utilization involving
overtime and undertime. Overtime means that employees work longer than the regular workday or workweek and
receive additional pay for the extra hours. It can be used to satisfy output requirements that cannot be completed
on regular time. On the other hand, undertime means that employees do not have enough work for the regular-
time workday or workweek. For example, they cannot be fully utilized for eight hours per day or for five days per
week. Moreover, undertime can either be paid or unpaid. An example of paid undertime is when employees are
kept on the payroll rather than being laid off. The disadvantages of paid undertime include the cost of paying for
work not performed and lowered productivity.
4. Part-Time Workers – They only work during the peak times of the day or peak days of the week. Sometimes, part-
time arrangements provide predictable work schedules, but in other cases workers are not called in if the workload
is light. Such arrangements are more common in low-skill positions or when the supply of workers seeking such an
arrangement is sufficient.
5. Subcontractors can be used to overcome short-term capacity shortages, such as during peaks of the season or
business cycle. Subcontractors can supply services, make components and subassemblies, or even assemble an
entire product.
6. Vacation Schedules – A manufacturer can shut down during an annual lull in sales, leaving a skeleton crew to
cover operations and perform maintenance.

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Planning Strategies
Here we focus on supply options that define output rates and workforce levels. Two basic strategies are useful starting
points in searching for the best plan.
1. Chase Strategy. The chase strategy involves hiring and laying off employees to match the demand forecast over
the planning horizon. Varying the workforce’s regular-time capacity to equate supply to demand requires no
inventory investment, overtime, or undertime.
2. Level Strategy. The level strategy involves keeping the workforce constant (except possibly at the beginning of the
planning horizon). It can vary its utilization to match the demand forecast via overtime, undertime (paid or unpaid),
and vacation planning (i.e., paid vacations when demand is low).
3. The best strategy, therefore, usually is a mixed strategy that considers the full range of supply options. The chase
strategy is limited to just hiring and laying off employees. The level strategy is limited to overtime, undertime, and
vacation schedules. The mixed strategy opens things up to all options, including anticipation inventory, part-time
workers, subcontractors, backorders, and stockouts.
Constraints and Costs
Constraints can be either physical limitations or related to managerial policies. Policy constraints might include limitations
on the number of backorders or the use of subcontractors or overtime, as well as the minimum inventory levels needed to
achieve desired safety stocks. Ethical issues may also be involved, such as excessive layoffs or required overtime. Typically,
many plans can contain a number of constraints. The list below are the costs that the planner considers when preparing
sales and operations plans.
1. Regular time - Regular-time wages paid to employees plus contributions to benefits, such as health insurance,
dental care, Social Security, retirement funds, and pay for vacations, holidays, and certain other types of absences.
2. Overtime - Wages paid for work beyond the normal workweek, typically 150 percent of regular-time wages
(sometimes up to 200 percent for Sundays and holidays), exclusive of fringe benefits. Overtime can help avoid the
extra cost of fringe benefits that come with hiring another full-time employee.
3. Hiring and layoff - Costs of advertising jobs, interviews, training programs for new employees, scrap caused by
the inexperience of new employees, loss of productivity, and initial paperwork. Layoff costs include the costs of exit
interviews, severance pay, retaining and retraining remaining workers and managers, and lost productivity.
4. Inventory holding - Costs that vary with the level of inventory investment: the costs of capital tied up in inventory,
variable storage and warehousing costs, pilferage and obsolescence costs, insurance costs, and taxes.
5. Backorder and stockout - Additional costs to expedite past-due orders, the costs of lost sales, and the potential
cost of losing a customer to a competitor (sometimes called loss of goodwill).
LESSON 5.5: Scheduling

Scheduling requires gathering data from sources such as demand forecasts or specific customer orders, resource
availability from the sales and operations plan, and specific constraints to be reckoned with from employees and customers.
It then involves generating a work schedule for employees or sequences of jobs or customers at workstations. The schedule
has to be coordinated with the employees and suppliers to make sure that all constraints are satisfied. Here we cover Gantt
charts, employee schedules, job sequencing at workstations, and software support.

Gantt Charts
This tool can be used to monitor the progress of work and to view the load on workstations. The chart takes two basic forms:
(1) the job or activity progress chart and (2) the workstation chart. The Gantt progress chart graphically displays the current
status of each job or activity relative to its scheduled completion date. Sample Gantt Charts are shown below.

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Scheduling Employees
Another way to manage capacity is workforce scheduling, which is a type of scheduling that determines when employees
work. Of particular interest are situations when not all employees work the same five days a week, and same eight hours
per day. The schedule specifies the on-duty and off-duty periods for each employee over a certain time period, as in
assigning postal clerks, nurses, pilots, attendants, or police officers to specific workdays and shifts.
Workforce schedules translate the staffing plan into specific schedules of work for each employee. Determining the
workdays for each employee in itself does not make the staffing plan operational. Daily workforce requirements, stated in
aggregate terms in the staffing plan, must be satisfied.

Sequencing Jobs at a Workstation

Sequencing determines the order in which jobs or customers are processed in the waiting line at a workstation. When
combined with the expected processing time, the sequence allows you to estimate the start and finish times of each job.
1. Priority Sequencing Rules - One way to determine what job or customer to process next is with the help of a
priority sequencing rule. The following two priority sequencing rules are commonly used in practice.
a. First-Come, First-Served. The job or customer arriving at the workstation first has the highest priority under
a first-come, first-served (FCFS) rule. This rule is the most “democratic” in that each job is treated equally,
with no one stepping ahead of others already in line.
b. Earliest Due Date. The job or customer with the earliest due date (EDD) is the next one to be processed.
The due date specifies when work on a job or customer should be finished. Due dates are commonly used
by manufacturers and suppliers in the supply chain

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2. Performance Measures - The quality of a schedule can be judged in various ways. Two commonly used
performance measures are flow time and past due.
a. Flow Time. The amount of time a job spends in the service or manufacturing system is called flow time. It
is the sum of the waiting time for servers or machines; the process time, including setups; the time spent
moving between operations; and delays resulting from machine breakdowns, unavailability of facilitating
goods or components, and the like. Flow time is sometimes referred to as throughput time or time spent in
the system, including service.
b. Past Due. The measure past due can be expressed as the amount of time by which a job missed its due
date (also referred to as tardiness) or as the percentage of total jobs processed over some period of time
that missed their due dates. Minimizing these past due measures supports the competitive priorities of cost
(penalties for missing due dates), quality (perceptions of poor service), and time (on-time delivery).

MGT6 – OPERATIONS MANAGEMENT AND TQM