project management- unit ii

Project Management

Generation & Screening of Project Ideas

2

Introduction

• A project may be seen as an investment activity where financial resources are expended to create capital assets that produce benefits over extended period of time.

• Project identification is the initial phase of the project development cycle. It begins with the conceiving of ideas or intentions

to set up a project. These ideas are then transformed into a project.

Generation of ideas Monitoring the environment Corporate appraisal Profit potential of industries : Porter model Scouting for project ideas Preliminary screening Project rating index

Generation Of Idea

• Barring truly new ideas• Stimulation the flow of ideas

most people adopt somewhat casual and haphazard approach to the generation of project ideas. To stimulate the flow of ideas, the following are helpful: SWOT Analysis

• Clear Articulation of Objectives• Forecasting a conductive climate

© Centre for Financial Management, Bangalore

Socio-economic GovernmentalCom

petitor

GeographicSupplier

Tech

nolo

gica

l

Business Environment

Monitoring the Environment

Economic Sector– State of the economy– Overall rate of growth– Growth rate of

primary, secondary and tertiary sector

– Cyclical fluctuations– Linkage with the world

economy– Trade surplus / deficits– Balance of payment

situations

Governmental Sector– Industrial policy – Government programmes

and projects– Tax framework– Subsidies, incentives, and

concessions– Import and export

policies– Financing norms– Lending conditions of

financial Institutions and commercial banks

Monitoring the Environment contd….

• Technological Sector– Emergence of new technologies – Access to technical know-how, foreign as well as indigenous– Receptiveness on the part of industry

• Socio-demographic Sector– Population trends– Age shifts in population– Income distribution– Educational profile– Employment of women– Attitudes toward consumption and investment

Monitoring the Environment contd….

• Competition Sector– Number of firms in the industry and the market share of the top few

(four or five) – Degree of homogeneity and differentiation among products– Entry Barriers– Comparison with substitutes in terms of quality, price, and functional

performance– Marketing policies and practices

• Supplier Sector– Availability and cost of raw materials and sub - assemblies– Availability and cost of energy– Availability and cost of money

Corporate Appraisal

• Marketing and Distribution• Production and Operations• Research and Development• Corporate Resources and Personnel• Finance and Accounting

Corporate Appraisal contd….• Marketing and Distribution

– Market Image– Product line– Market size– Distribution Network– Customer Loyalty– Marketing and Distribution costs

• Production and operations– Condition and capacity of plant and machinery– Availability of raw materials, sub-assemblies, and power– Degree of vertical integration– Location advantage– Cost structure

Corporate Appraisal contd….• Research and Development

– Research capabilities of the firm

– Track record of new product developments

– Laboratories and testing facilities

– Coordination between research and operations

• Corporate Resources and Personnel– Corporate image

– Clout with governmental and regulatory agencies

– Dynamism of top management

– Competence and commitment of employees

– State of industrial relations

Corporate Appraisal contd….

• Finance and Accounting– Financial leverage and borrowing capacity

– Cost of capital

– Tax situation

– Relations with shareholders and creditors

– Accounting and control system

– Cash flows and liquidity

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For projects to be properly conceived, the characteristics below must be clearly defined: – Objectives– Expected outputs– Intended beneficiaries– Planned lifespan– Extended outcome of the project– Principle stakeholders– Financial plan and source of financing

Essential characteristics of projects

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– Individuals – Groups of individuals (community) – Local leaders – NGOs– Policy makers– Planners – International development agencies – Government pronouncements

Project ideas may be due to:• prevailing problems in a given area.• availability of resources in a given location.

Project ideas conceived by:

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• Clear project identification allows you to answers questions like:

a) How do the projects come about?b) Where do projects come from?c) Why are projects where they are?

Project identification

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There are two major approaches to project identification

(a) Top-down approach (b) Bottom-up approach

Approaches to project identification

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• Projects are identified based on demands from beyond the community.

• This may include directives from:– international conventions (such as Kyoto

Protocol/climate change) – international institutions or NGOs that have

determined particular priorities and thus projects– national policy makers identifying projects that

pertain to party manifestos and/or national plans.

Top-Down Approach

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• It may be a rapid response to disasters like floods, war outbreak because there is limited time and chance to consult the beneficiaries.

• It can be effective in providing important services like education, health, water, roads etc.

• It can contribute to wider national or international objectives and goals – and therefore potentially be part of a wider benefit

(as in the case of trans-boundary resources, such as climate, water or others)

Advantages of Top-Down Approach

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• Does not help in modifying strongly established ideas and beliefs of people.

• Assumes external individuals know better than the beneficiaries of the service.

• Communities have little say in planning process rendering approach devoid of human resource development.

• Community develops dependency syndrome on outside assistance and does not exploit their own potential.

• The development workers (change agents) become stumbling blocks to people-led development – tendency to impose their own biases, etc. on people.

Limitations of Top-Down Approach

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• In this approach community/beneficiaries are encouraged to identify and plan the projects themselves with or without outsiders.

Bottom-Up Approach

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• Interveners accomplish more with limited resources since people tend to safeguard what they have provided for themselves.

• Develops people’s capacity to identify problems and needs and to seek possible solutions to them.

• Provides opportunities of educating people.• Helps people to work as a team and develop a “WE”

attitude - makes project progressive and sustainable.• Resources are effectively managed; dependence

reduces, there is increased equity, initiative, accountability, financial and economic discipline.

Advantages of Bottom-Up Approach

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• Not always effective for projects that require urgency to implement

• Time-consuming and requires patience and tolerance. • People sometimes dislike approach because they do

not want to take responsibility for action.• The agency using this approach is never in control and

cannot guarantee the results it would want. • The priorities of communities may not fit with

national or international priorities that seek to have a broader impact

Limitations of Bottom-Up Approach

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1. The household (socio-economic) survey• Studies social and economic situations of a given area

e.g. climate, geographical set-up, economic activities, political set up, education system, culture, diet, social services, physical infrastructure etc.

• Uses questionnaires, interviews, documentation, and direct observation.

• Data is collected, processed and analyzed and projects are then identified

Top-down approaches to project identification

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2. Rapid appraisal • Called Rapid Rural Appraisal (RRA) when carried out

in a rural areas, and Rapid Urban Appraisal (RUA) in an urban area.

• Method collects and assesses data quickly using any data collection techniques.

• Primary purpose is to acquire the information in the shortest time possible and it lowers the cost.– It is rapid because investigation, assessment and

identification of projects are done at the same time.


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• Rapid appraisal uses the following data collection techniques:– Analysis of secondary data sources – Interviews– Direct observation at site – Visualization of Resources like social

organizational maps and time series maps.

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3. Needs Assessment Survey• Also referred to as situation analysis

(SITAN). It involves:-– Fact finding about problems or needs in a

given area or community. – Finding out what is lacking in a given area

or community. – Investigating a situation in a given area.


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NAS is carried out to: • find out the problem in a given community so as

to identify the most appropriate solution (s)/project (s) to solve the problem (s) in question.

• analyze the causes of the problems and seek likely solutions to the problems leading to project identification.

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1. Animation• Process of stimulating people to become more aware and

conscious of problems they suffer from. to gain confidence in their ability to deal with these

problems and take initiatives to improve situation.

• Animation makes the community better understand and be prepared to overcome its problems and take decisions with full responsibility.

• Carried out by Animators / Helpers / Change agents. (Internal Animators if they come from within the community or External Animators if from outside.)

Bottom-up approaches to project identification

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2. Facilitation/Community action• an attempt to assist people to get over

problems by (say) training them in certain skills, providing them with the needed information e.g. market information, linking them up with relevant agencies and organizations to improve access to the needed resources etc.


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3. Participatory Appraisal Project identification should be participatory,

and should involve local communities in identifying and prioritizing their needs. The DTPC (District Tourism Promotion Council) should consider the views of the communities during the screening and selection of various project proposals and the selection of the preferred proposals for implementation.


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• PRA (participatory rural appraisal) when carried out in rural areas; and PUA (participatory urban appraisal) when carried out in urban areas

• PRA/ PUA can be described as a family of approaches, methods and behaviors that enable people to express and analyze the realities of their lives and conditions, to plan for themselves what action to take, and to monitor and evaluate the results.

• The key to PRA/PUA is that the only external involvement is in facilitation. The communities themselves determine the issues, priorities and courses of action.

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• The process of project identification ends with the formulation of a problem statement.

• It takes the form of:– Listing all the problems/needs in the community/area/

organization. – Prioritizing the problems and selecting 1 – 3 core (major)

problems. – Finding out the root causes of the problems. – Sitting the likely effects of the problems on the

community. – Suggesting the probable solutions to the problems. – Identifying the (projects) from the solutions.

The problem statement

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• Is the technology appropriate to the project’s objectives or local capabilities?

• Is the risk involved manageable?• Is the demand for the expected outputs adequate, and does

the project actually have a comparative advantage?• Will the supply of raw materials or skills be adequate?• Is the design in agreement with the institutional and

managerial capabilities available?• Will the recurrent costs be adequately met given the available

financial resources?• Is there adequate commitment by the intended beneficiaries

and support from District and central government authorities?

The screening process of projects, inter alia, responds to the following concerns:

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• Is the project has negative effects on the environment? And if yes, can the effects be mitigated?

• Is the project culturally acceptable by the community• Is the project sustainable?

The screening process of projects, inter alia, responds to the following concerns (cont.):

Tools for Identifying Investment Opportunities

There are several tools or frameworks that are helpful in

identifying promising investment opportunities. The more

popular ones are:

Porter model

Life cycle approach

Experience Curve

Profit potential of industries :

PORTER MODEL

THE INDUSTRYRivalry Among Existing

Firms

Substitutes

Suppliers Buyers

Potential Entrants

Bargaining Power

of Suppliers

Threat of New Entrants

Bargaining Power Buyers

Threat Of Substitute

Product

Forces Driving Industry Competition

Threat of New Entrant

• Add capacity, inflate costs, push prices down and reduce profitability.

• This threat is low when:– High investment for entering the market.– Economies of scale in the industry.– Existing firms control the distribution channels.– Switching cost is high.– Govt. policies limits or prevents new entrants.

Rivalry between Existing Firms• Competition within on the basis of price, quality,

promotion, service, warranties etc.• High rivalry will lead to low profit margins.• Rivalry is high when:

– Large no of competitors.– Few firms are balanced and have the capacity to engage in

battle.– Industry growth is stagnant.– The industry has high exit barriers.– High level of fixed costs.– Product is a commodity or near-commodity.

Pressure from Substitute Products

• All industries face problem from substitute products.

• Performs same function as original product thus limiting the profit potential.

• Threat from substitute product is high when– The price-performance trade off offered by substitute

product is high.– Switching cost is low.– Substitute products produced by industries earning

superior profits.

Bargaining Power of Buyers

• Buyers can bargain for quality, price cut, better service and induce rivalry among competitors.

• Powerful buyers can depress the profitability of supplier industry.

• Bargaining power is high when:– High volume of purchase.– Switching costs are low.– Strong threat of backward integration.

Bargaining Power of Suppliers

• Suppliers can raise prices, lower the quality and curtail some free services.

• Powerful supplier can impact the profitability of buyer.

• Bargaining power is high when:– Few suppliers in the market.– Hardly any substitute available.– Switching cost is high.– Threat of forward integration.

Life Cycle Approach Many industrial economists believe that most products evolve through

a life cycle that has four stages:•Pioneering stage

— Technology and product is new.— Only few entrants survive.

•Rapid growth stage— Significant expansion in profits.

•Maturity and stabilization stage

•Decline stage— Due to changing in consumer preferences.— Encroachment of new products.

Investment in the pioneering stage, per se, may have a low

return and negative NPV. However, it may create options

for participating in growth.

Most products evolve through a life cycle. The broad stages and

the investment returns in these stages are as follows:

Stage Pioneering

Rapid growth

Maturity

Decline

Investment Returns May have negative NPV but may create options for participating in growth stage

Positive NPV

NPV - neutral Negative

Experience Curve The experience curve shows how the cost per unit behaves with respect to

the accumulated volume of production

10 20 40 80

100

80

60

40

Accumulated volume of production

Cost

pe r

uni

t ( P

rese

nt v

a lue

)

The key factors that contribute to decline in unit cost with respect to the

accumulated volume of production are —learning effects, —Technological improvements, and —economies of scale

What is SWOT analysis

A technique that enables a group or individual

to move from everyday problems and traditional strategies to a fresh prospective.

SWOT analysis looks at your strengths and weaknesses, and the opportunities and threats your business faces.

The SWOT Analysis framework is a very important and useful tool to use in marketing Management and other business applications

As a basic tool its mastery is a fundamental requirement for the marketer, entrepreneur or business person.

A clear understanding of SWOT is required for business majors.

SWOTAnalysis

Oppurtunity

Threats

Strengths

Weakness

Technique is credited to Albert Humphrey who led a research project at Stanford University in the 1960s and 1970s.

Planning tool used to understand Strengths, Weaknesses, Opportunities, & Threats involved in a project / business.

Used as framework for organizing and using data and information gained from situation analysis of internal and external environment.

What is SWOT Analysis?

SWOT is an acronym for:

STRENGTHS

Characteristics of the business or a team that give it an advantage over others in the industry.Positive tangible and intangible attributes, internal to an organization.

Beneficial aspects of the organization or the capabilities of an organization, process capabilities, financial resources, products and services, customer goodwill and brand loyalty.

Examples - Abundant financial resources, Well-known brand name, Economies of scale, Lower costs [raw materials or processes], Superior management talent, Better marketing skills, Good distribution skills, Committed employees.


WEAKNESSES

Characteristics that place the firm at a disadvantage relative to others.

Detract the organization from its ability to attain the core goal and influence its growth.Weaknesses are the factors which do not meet the standards we feel they should meet. However, weaknesses are controllable. They must be minimized and eliminated.

Examples - Limited financial resources, Weak spending on R & D, Very narrow product line, Limited distribution, Higher costs, Out-of-date products / technology, Weak market image, Poor marketing skills, Limited management skills, Under-trained employees.


OPPORTUNITIES


Chances to make greater profits in the environment - External attractive factors that represent the reason for an organization to exist & develop.

Arise when an organization can take benefit of conditions in its environment to plan and execute strategies that enable it to become more profitable.

Organization should be careful and recognize the opportunities and grasp them whenever they arise..

Examples - Rapid market growth, Rival firms are complacent, Changing customer needs/tastes, New uses for product discovered, Economic boom, Government deregulation, Sales decline for a substitute product .

!

!

THREATS


External elements in the environment that could cause trouble for the business - External factors, beyond an organization’s control.

Arise when conditions in external environment jeopardize the reliability and profitability of the organization’s business.Compound the vulnerability when they relate to the weaknesses. Threats are uncontrollable. When a threat comes, the stability and survival can be at stake.Examples - Entry of foreign competitors, Introduction of new substitute products, Product life cycle in decline, Changing customer needs/tastes, Rival firms adopt new strategies, Increased government regulation, Economic downturn.

Aim of Swot analysis

HELPFUL HARMFUL

S W

TO

To help decision makers share and compare ideas.

To bring a clearer common purpose and understanding of factors for success.

To organize the important factors linked to success and failure in the business world.

To provide linearity to the decision making process allowing complex ideas to be presented systematically.

Job Holder• When supervisor has issues with work output• Assigned to a new job• New financial year – fresh targets• Job holder seeks to improve performance on the job

1

Business Unit

2

• When the team has not met its targets• Customer service can be better• Launching a new business unit to pursue a new business• New team leader is appointed

Company

• When revenue, cost & expense targets are not being achieved • Market share is declining• Industry conditions are unfavorable • Launching a new business venture

3

Who needs SWOT Analysis?

Workshop Sessions

Brainstorming Meetings

Strategic Planning

Product Evaluation

Competitor Evaluation

Personal Development Planning

Decision Making

Product Launch

Changing Jobs

Who needs SWOT Analysis?

SWOT Analysis is also required for / during...

3. Prepare Action Plans2. Perform SWOT Analysis & Document

1. Analyse Internal & External Environment

How to conduct SWOT Analysis?



.

7Carry your findings forward - Make sure that the SWOT analysis is used in subsequent planning. Revisit your findings at suitable time intervals.

Create a workshop environment - Encourage an atmosphere conducive to the free flow of information.

3Allocate research & information gathering tasks - Background preparation can be carried out in two stages – Exploratory and Detailed. Information on Strengths & Weaknesses should focus on the internal factors.

2Select contributors - Expert opinion may be required for SWOT1

Establish the objectives - Purpose of conducting a SWOT may be wide / narrow, general / specific.

6Evaluate listed ideas against Objectives - With the lists compiled, sort and group facts and ideas in relation to the objectives.

5List Strengths, Weaknesses, Opportunities, & threats4


2. Perform SWOT Analysis & Document


3. Prepare Action Plan

Things that MUST be addressed immediately

Once the SWOT analysis has been completed, mark each point with:

Things that can be handled now

Things that should be researched further

Things that should be planned for the future

Pitfalls of SWOT Analysis

Can be very subjective. Two people rarely come up with the same final version of a SWOT. Use it as a guide and not as a prescription.

May cause organizations to view circumstances as very simple due to which certain key strategic contact may be overlooked.

Categorizing aspects as strengths, weaknesses, opportunities & threats might be very subjective as there is great degree of uncertainty in market.

To be effective, SWOT needs to be conducted regularly. The pace of change makes it difficult to anticipate developments.

The data used in the analysis may be based on assumptions that subsequently prove to be unfounded [good and bad].

It lacks detailed structure, so key elements may get missed.

.

Tips & Exercise

Do’s Be analytical and specific.

Record all thoughts and ideas.

Be selective in the final evaluation.

Choose the right people for the

exercise.

Choose a suitable SWOT leader or

facilitator.

Think out of the box

Be open to change

Don’ts

х Try to disguise weaknesses.

х Merely list errors and mistakes.

х Lose sight of external influences and

trends.

х Allow the SWOT to become a blame-

laying

exercise.

х Ignore the outcomes at later stages of

the

planning process.

TIPS

.

Preliminary Screening• It is possible to develop a long list of project ideas, a

preliminary screening is required to eliminate ideas which prima facie are not promising. The following aspects can be looked into:– Compatibility with the promoter

• Idea must be compatible with the interest, personality and resources of the entrepreneur.

– Consistency with governmental priorities• Project idea must be feasible with national goals and govt. regulatory framework.

– Availability of inputs• Resources and inputs required must be reasonably assured.

– Adequacy of market• Size of the market should compliment the prospect of sales volume.

– Reasonableness of cost• Cost structure may enable it to realize an acceptable profit with a price.

– Aacceptability of risk level

Pre-feasibility StudyGeneration of Ideas

Initial Screening

Is the Idea Prima Facie Promising ?

Plan Feasibility Study

YesTerminate

No

Conduct Market analysis

Conduct Technical Analysis

Conduct Financial Analysis

Conduct Economic and Ecological analysis

Is the project is worth while ?

Prepare funding proposal TerminateNoYes

Preliminary

Work Analysis

Evaluation

DPR – Detail Project reportPreparation of detailed project report is further step in firming up

the proposal. When an investment proposal has been approved on the basis functional report and the proposal is a major proposal, it would be necessary to detailed project report to firm up the proposal for the capital cost as well as the various facilities. It includes...

• Examination of technological parameters.• Description of the technology to be used.• Broad technical specification.• Evaluation of the existing resources.• Schedule plan.• General layout.• Volume of work.

DPR – Detail Project report contd……

Hence these reports are to be made before investment is made into project. Thus formulation of investment is based on the studies made. These can be considered as pre-investment decision. Detailed project report is prepared only for the investment decision-making approval, but also execution of the project and also preparation of the plan. Detailed project report additionally includes below mentioned contents in addition to Feasibility study reports:

• Project description.• Planning and implementation of the project.• Specifications.• Layouts and flow diagrams.

Project Rating Index

The steps involved in determining the project rating index are

as follows

Identify factors relevant for project rating

Assign weights to these factors ( the weights are supposed to reflect their

relative importance)

Rate the project proposal on various factors, using a suitable rating scale

(Typically a 5-point scale or a 7-point scale is used for this purpose.)

For each factor, multiply the factor rating with the factor weight to get the

factor score

Add all the factor scores to get the overall project rating index

Construction of a Rating Index

Factor Factor Rating Factor Weight

Score VG G A P VP

5 4 3 2 1 Input availability 0.25 ü 0.75Technical know-how 0.10 ü 0.40Reasonableness of cost 0.05 ü 0.20Adequacy of market 0.15 ü 0.75Complementary relationship with other products 0.05 ü 0.20Stability 0.10 ü 0.40Dependence on firm’s strength 0.20 ü 1.00Consistency with governmental priorities 0.10 ü 0.30

Rating Index4.00

Market and Demand Analysis

Overview

• Situational Analysis & Specifications of Objective.• Collection of Secondary Information.• Conduct of Market Survey. • Characterization of the Market.• Demand Forecasting. • Uncertainties in Demand Forecasting. • Market planning.

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Key Step in Market & Demand Analysis and Their Inter-relationship

Situational Analysis and Specifications of Objectives

Collection of Secondary Information

Conduct of Market Survey

Characterization of the Market

Demand Forecasting

Market Planning

SITUATIONAL ANALYSIS AND SPECIFICATIONS OF OBJECTIVES

Get a “feel” for the relationship between the product and it’s market, the project analyst may informally talk to customers, competitors, middlemen and other in the industry.

Look at the experience of the company to learn about the purchasing power of customer, action & strategies of competitors.

The objectives of market & Demand analysis, to answer the following question : (for air coolers)

Who are the buyers of air cooler? What is the total current demand for air coolers? What price will the customer be willing to pay for the improved air

cooler. What price & warranty will ensure its acceptance? What are the prospects of immediate sales? etc.

Collection of Secondary Information

Secondary Information is information that has been gathered in some other context and is already available.

Secondary information provides the base and starting point for the market & Demand analysis.

Examples of secondary information available: General Sources of Secondary Information Industry Specific Sources of Secondary Information Evaluation of Secondary Information

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General Sources of Secondary Information

• Census of India• National Sample Survey Reports• Statistical Abstracts of Indian Union• Economic Survey• Guidelines to Industries• Annual Survey of Industries• Monthly Bulletin of RBI• Publications of Advertising Agencies etc.

Industry Specific Sources of Secondary Information

Industry Title Publisher

Automobiles Annual Reports of Association of Indian Automobile Manufacturers,Automobile Ancillary Industry (Yearly)

Indian Automobile Manufacturers Association. Army and Navy Building, Mahatma Gandhi Road, Mumbai-23

Chemical Fertilizer Statistics Fertilizer Association of India, JN University, New Delhi-57

Metallurgical Iron and Steel Control Bulletin (Quarterly)

Ministry of Steel and Mines

Textiles Indian Textile Bulletin

Man Made Fibres

Textile Commissioner, Mumbai

Associatoin of Synthetic Fibre Industry, 84 Veer Nirman Road, Mumbai-20

Evaluation of Secondary Information

• Who gathered the information? What was the objective?• When was the information gathered? When was it

published?• How representative was the period for which the

information was gathered?• What was the target population?• How was the sample chosen?• How representative was the sample?• How accurately was the information edited, tabulated and

analyzed?• Was statistical analysis properly applied?

Conduct of Market SurveyThe market survey may be a census survey or a sample

survey. Census survey are employed principally for intermediate

goods & investment goods when such goods are used by a small number of firms.

• Steps in a Sample Survey– Define the Target Population– Select the Sampling Scheme and Sample Size– Develop the Questionnaire– Recruit and Train the Field Investigators– Obtain Information as Per the Questionnaire from the

Sample of Respondents– Scrutinizes the Information Gathered– Analyze and interpret the Information 79

Conduct of Market Survey

Some Problems:– Heterogeneity of the Country– Multiplicity of the Languages– Design of Questionnaire

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Characterization of the Market Effective Demand in the Past and Present Apparent Consumption = Production + Imports – Exports – Change in stock level Breakdown of Demand

– Nature of Product (Generic name for products e.g. steel)– Consumer Groups (Industrial & domestic)– Geographical Division (after sales etc.)

Price– FOB, CIF, landed price, average wholesale price and average retail price.

Methods of Distribution and Sales Promotion Consumers

– Demographics and sociological (Age, Gender, Income, Profession, Residence)– Attitudinal (Preferences, Intentions, Habits, Attitudes, Responses)

Supply and Competition– Supply from foreign or domestic– Competition with substitutes or near substitutes

Government Policy– Policies, plans, legislations etc 81

Demand ForecastingPredicting the futureQualitative forecast methods

– subjectiveQuantitative forecast methods

– based on mathematical formulasDepend on

– time frame– demand behavior– causes of behavior

Demand ForecastingQualitative Methods

– These methods rely essentially on the judgment of experts to translate qualitative information into quantitative estimates

– Used to generate forecasts if historical data are not available (e.g., introduction of new product)

– The important qualitative methods are:• Jury of Executive Method• Delphi Method

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Jury of Executive Opinion MethodRationale

– Upper-level management has best information on latest product developments and future product launches

Approach– Small group of upper-level managers collectively

develop forecasts – Opinion of GroupMain advantages

– Combine knowledge and expertise from various functional areas

– People who have best information on future developments generate the forecasts

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Jury of Executive Opinion MethodMain drawbacks

– Expensive– No individual responsibility for forecast quality– Risk that few people dominate the group– Subjective– Reliability is questionable

Typical applications– Short-term and medium-term demand forecasting

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Delphi Method

Rationale

– Eliciting the opinions of a group of experts with the help of mail survey

– Anonymous written responses encourage honesty and avoid that a group of experts are dominated by only a few members

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Delphi Method

Approach

Coordinator Sends Initial Questionnaire

Each expertwrites response(anonymous)

Coordinatorperformsanalysis

Coordinatorsends updatedquestionnaire

Coordinatorsummarizesforecast

Consensusreached?

YesNo

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Delphi MethodMain advantages

– Generate consensus– Can forecast long-term trend without availability of

historical dataMain drawbacks

– Slow process – Experts are not accountable for their responses– Little evidence that reliable long-term forecasts can be

generated with Delphi or other methodsTypical application

– Long-term forecasting– Technology forecasting

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Time Series Projection Methods

• These methods generate forecasts on the basis of an analysis of the historical time series.

• Assume that what has occurred in the past will continue to occur in the future

• Relate the forecast to only one factor - timeThe important time series projection methods are:

– Trend Projection Method– Exponential Smoothing Method– Moving Average Method

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Advantages• It uses all observations• The straight line is derived by statistical procedure• A measure of goodness fit is available

Disadvantages• More complicated• The results are valid only when certain conditions are

satisfied

Trend Projection Method

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Formula for Linear Relationship

• Yt = a + bt– Yt = demand for the year t– t = time variable– a = intercept of the relationship– b = slope of the relationship

Exponential Smoothing

Exponential smoothing, forecasts are modified in the light of observed errors.

If the forecast value for year t, Ft, is less than the actual value for year t, St, the forecast for the year t+1, Ft + 1 ..

Ft + 1 = Ft + α et

Where Ft + 1 = forecast for year t+1α = smoothing parameter (between 0-1)et = error in the forecast for year t = St ‾ Ft

Solution of problem for Exponential Smoothing

Moving Average Naive forecast

– demand in current period is used as next period’s forecast Simple moving average

– uses average demand for a fixed sequence of periods– stable demand with no pronounced behavioral patterns

Weighted moving average– weights are assigned to most recent data

According to the moving average method St + S t – 1 +…+ S t – n +1

Ft + 1 = n

where Ft + 1 = forecast for the next periodSt = sales for the current periodn = period over which averaging is done

Example Data Forecast Forecast for t+1

t St Ft F(t+1) = (St + St-1 + St-2 + S t-3)/4

1 28

2 29

3 28.5

4 31

F5 29.1

5 34.2 29.1 F6 30.7

6 32.7 30.7 F7 31.6

7 33.5 31.6 F8 32.9

8 31.8 32.9 F9 33.1

9 31.9 33.1 F10 32.5

10 34.3 32.5 F11 32.9

11 35.2 32.9 F12 33.3

12 36 33.3

Weighted Moving Average

WMAn = i = 1 Wi Di

where

Wi = the weight for period i, between 0 and 100 percent

Wi = 1.00

Adjusts moving average method to more closely reflect data fluctuations

n

Weighted Moving Average Example

MONTH WEIGHT DATA

August 17% 130September 33% 110October 50% 90

WMA3 = 3

i = 1 Wi Di

= (0.50)(90) + (0.33)(110) + (0.17)(130)

= 103.4 orders

November Forecast

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Causal Methods

Causal methods seek to develop forecasts on the basis of cause-effects relationships specified in an explicit, quantitative manner.– Chain Ratio Method– Consumption Level Method– End Use Method– Leading Indicator Method– Econometric Method

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Chain Ratio Methods Market Potential for heated coats in the U.S.:

– Population (U) = 280,000,000– Proportion of U that are age over 16 (A) = 75%– Proportion of A that are men (M) = 50%– Proportion of M that have incomes over $65k (I) = 50%– Proportion of I that live in cold states (C) = 50%– Proportion of C that ski regularly (S) = 10%– Proportion of S that are fashion conscious (F) = 30%– Proportion of F that are early adopters (E) = 10%– Average number of ski coats purchased per year (Y) = .5

coats– Average price per coat (P) = $ 200

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Chain Ratio Methods

Market Potential for heated coats in the U.S.:Market Sales Potential = U x A x M x I x C x S x F x E x Y= 280 Million x 0.75 x 0.50 x 0.50 x 0.50 x 0.10 x

0.30 x 0.10 x200 = $7.88 Million

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Consumption Level Method

This method is used for those products that are

directly consumed. This method measures the consumption level on the basis of elasticity coefficients.

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Income Elasticity: This reflects the responsiveness of demand to variations in income. It is calculated as:

E1 = [Q2 - Q1/ I2- I1] * [I1+I2/ Q2 +Q1] • Where E1 = Income elasticity of demand

Q1 = quantity demanded in the base yearQ2 = quantity demanded in the following yearI1 = income level in the base year I2 = income level in the following year

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Price Elasticity: This reflects the responsiveness of demand to variations in price. It is calculated as:

EP = [Q2 - Q1/ P2- P1] * [P1+P2/ Q2 +Q1] • Where EP = Price elasticity of demand Q1 = quantity demanded in the base year Q2 = quantity demanded in the following year P1 = price level in the base year

P2 = price level in the following year103

Suitable for estimating demand for intermediate products

Also called as consumption coefficient methodSteps1. Identify the possible uses of the products2. Define the consumption coefficient of the product

for various uses3. Project the output levels for the consuming

industries4. Derive the demand for the project

End Use Method

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End Use Method

This method forecasts the demand based on the consumption coefficient of the various uses of the product.

Projected Demand for IndchemConsumption

CoefficientProjected Output

in Year XProjected Demand for

Indchem in Year XAlphaBetaKappaGamma

2.01.20.80.5

10,00015,00020,00030,000Total

20,00018,00016,00015,00069,000

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Leading Indicator Method

This method uses the changes in the leading indicators to predict the changes in the lagging indicators.

Two basic steps:1. Identify the appropriate leading indicator(s)2. Establish the relationship between the leading

indicator(s) and the variable to forecast.

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Econometric MethodAn advanced forecasting tool, it is a mathematical

expression of economic relationships derived from economic theory.

Economic variables incorporated in the model1. Single Equation Model

Dt = a0 + a1 Pt + a2 Nt

WhereDt = demand for a certain product in year t.Pt = price of the product in year t.Nt = income in year t.

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Econometric Method2. Simultaneous equation method

GNPt = Gt + It + Ct

It = a0 + a1 GNPt

Ct = b0 + b1 GNPt

• WhereGNPt = gross national product for year t. Gt = Governmental purchase for year t. It = Gross investment for year t.

Ct= Consumption for year t.108

Advantages• The process sharpens the understanding of

complex cause – effect relationships• This method provides basis for testing

assumptionsDisadvantages• It is expensive and data demanding• To forecast the behaviour of dependant

variable, one needs the projected values of independent variables

Econometric Method

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Uncertainties in Demand Forecasting

Data about past and present markets.– Lack of standardization:- product, price, quantity,

cost, income….– Few observations– Influence of abnormal factors:- war, natural

calamity Methods of forecasting

– Inability to handle unquantifiable factors– Unrealistic assumptions– Excessive data requirement

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Uncertainties in Demand Forecasting

Environmental changes– Technological changes– Shift in government policy– Developments on the international scene– Discovery of new source of raw material– Vagaries of monsoon

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Coping With Uncertainties Conduct analysis with data based on

uniform and standard definitions. Ignore the abnormal or out-of-ordinary

observations. Critically evaluate the assumptions Adjust the projections. Monitor the environment. Consider likely alternative scenarios. Conduct sensitivity analysis

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Market planningCurrent marketing situation

- Market, Competition, Distribution, PEST.Opportunity and issue analysis - SWOTObjectives- Break even, % market share…Marketing strategy- target segment,

positioning, product line, price, distribution, sales promotion, advertising...

Action program- Quarter 1, Q2, Q3….

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