Causal Forecasting

by Gordon Lloyd
What will be covered?
What is forecasting?
Methods of forecasting
What is Causal Forecasting?
When is Causal Forecasting Used?
Methods of Causal Forecasting
Example of Causal Forecasting
What is Forecasting?

Forecasting is a process of estimating
the unknown



Business Applications
Basis for most
planning decisions
Scheduling
Inventory
Production
Facility Layout
Workforce
Distribution
Purchasing
Sales


Methods of Forecasting
Time Series Methods

Causal Forecasting Methods

Qualitative Methods
What is Causal Forecasting?

Causal forecasting methods are based on the
relationship between the variable to be
forecasted and an independent variable.
When Is Causal Forecasting
Used?
Know or believe something caused
demand to act a certain way
Demand or sales patterns that vary
drastically with planned or unplanned
events

Types of Causal Forecasting

Regression
Econometric models
Input-Output Models:


Regression Analysis Modeling
Pros
Increased accuracies
Reliability
Look at multiple factors of demand

Cons
Difficult to interpret
Complicated math

Linear Regression
Line Formula

y = a + bx

y = the dependent variable
a = the intercept
b = the slope of the line
x = the independent variable

Linear Regression
Formulas


a = Y bX

b = xy nXY
x - nX






a = intercept
b = slope of the line
X = x = mean of x
n the x data
Y = y = mean of y
n the y data
n = number of periods
Correlation
Measures the strength of the
relationship between the dependent
and independent variable



Correlation Coefficient
Formula

r = ______nxy - xy______
[nx - (x)][ny - (y)]
______________________________________
r = correlation coefficient
n = number of periods
x = the independent variable
y = the dependent variable
Coefficient of
Determination
Another measure of the relationship
between the dependant and
independent variable
Measures the percentage of variation
in the dependent (y) variable that is
attributed to the independent (x)
variable
r = r
Example
Concrete Company
Forecasting Concrete Usage
How many yards will poured during the week
Forecasting Inventory
Cement
Aggregate
Additives
Forecasting Work Schedule
Example of Linear
Regression
# of Yards of
Week Housing starts Concrete Ordered
x y xy x y
1 11 225 2475 121 50625
2 15 250 3750 225 62500
3 22 336 7392 484 112896
4 19 310 5890 361 96100
5 17 325 5525 289 105625
6 26 463 12038 676 214369
7 18 249 4482 324 62001
8 18 267 4806 324 71289
9 29 379 10991 841 143641
10 16 300 4800 256 90000
Total 191 3104 62149 3901 1009046



Example of Linear
Regression
X = 191/10 = 19.10
Y = 3104/10 = 310.40

b = xy nxy = (62149) (10)(19.10)(310.40)
x -nx (3901) (10)(19.10)
b = 11.3191

a = Y - bX = 310.40 11.3191(19.10)

a = 94.2052

Example of Linear
Regression
Regression Equation
y = a + bx
y = 94.2052 + 11.3191(x)

Concrete ordered for 25 new housing starts
y = 94.2052 + 11.3191(25)
y = 377 yards

Correlation Coefficient
Formula

r = ______nxy - xy______
[nx - (x)][ny - (y)]
______________________________________
r = correlation coefficient
n = number of periods
x = the independent variable
y = the dependent variable
Correlation Coefficient
r = ______nxy - xy______
[nx - (x)][ny - (y)]

r = 10(62149) (191)(3104)
[10(3901)-(3901)][10(1009046)-
(1009046)]

r = .8433


Coefficient of
Determination
r = .8433

r = (.8433)

r = .7111
Excel Regression Example
# of Housing # of Yards
Week Starts of Concrete
Ordered
x y
1 11 225
2 15 250
3 22 336
4 19 310
5 17 325
6 26 463
7 18 249
8 18 267
9 29 379
10 16 300
Excel Regression Example
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.8433
R Square 0.7111
Adjusted R Square 0.6750
Standard Error 40.5622
Observations 10
ANOVA
df SS MS F Significance F
Regression 1 32402.05 32402.0512 19.6938 0.0022
Residual 8 13162.35 1645.2936
Total 9 45564.40
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0%
Intercept 94.2052 50.3773 1.8700 0.0984 -21.9652 210.3757 -21.9652 210.3757
X Variable 1 11.3191 2.5506 4.4378 0.0022 5.4373 17.2009 5.4373 17.2009
Excel Regression Example
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.8433
R Square 0.7111
Adjusted R Square 0.6750
Standard Error 40.5622
Observations 10
ANOVA
df
Regression 1
Residual 8
Total 9
Coefficients
Intercept 94.2052
X Variable 1 11.3191
Compare Excel to Manual
Regression
Manual Results
a = 94.2052
b = 11.3191
y = 94.2052 +
11.3191(25)
y = 377
Excel Results
a = 94.2052
b = 11.3191
y = 94.2052 +
11.3191(25)
y = 377
Excel Correlation and
Coefficient of Determination
Multiple R 0.8433
R Square 0.7111
Regression Statistics
Compare Excel to Manual
Regression
Manual Results

r = .8344
r = .7111
Excel Results

r = .8344
r = .7111
Conclusion
Causal forecasting is accurate and
efficient
When strong correlation exists the
model is very effective
No forecasting method is 100%
effective

Reading List
Lapide, Larry, New Developments in Business
Forecasting, Journal of Business Forecasting
Methods & Systems, Summer 99, Vol. 18, Issue 2
http://morris.wharton.upenn.edu/forecast,
Principles of Forecasting, A Handbook for
Researchers and Practitioners, Edited by J. Scott
Armstrong, University of Pennsylvania
www.uoguelph.ca/~dsparlin/forecast.htm,
Forecasting