METHODS OF BUSINESS FORECASTING
There are various methods used to undertake accurate business forecasting. They are:
- Direct or Bottom-up Method
- Under this method, the various departments in the organisation collect information or data on their own and prepare their own forecasts.
- The forecasting of the entire organisation is undertaken on the basis of these departmental forecasting.
- Thus, the responsibility of successful forecasting lies with various departments in the organisation.
- Indirect or Top-down Method
- This method is just the reverse of the bottom-up method.
- Here, the forecast of the entire business is established first and on the basis of that particular forecasts of various departments or activities are developed.
- The process of forecasting is indirect, and the responsibility of success in forecasting mainly lies with the top levels of management.
- Historical Method
- This method is based on the projection of trends based on past events.
- The historical facts and figures are analysed to understand the present situation and also forecasting future trends.
- The advantages of this method include the easy availability of past information, and also this method doesn't ignore the present information.
- The future trends may deviate drastically from what is indicated by past events; this is a drawback of this method.
- Deductive Method
- Under this method, future trends are based on observation and investigation.
- This method is a more dynamic approach as it considers both the historical sequences of events and also the latest developments.
- The main drawback of this approach is that it relies more on individual judgement and initiative appraisal than on actual record.
- Joint Opinion Method
- This method utilises a collection of opinions, judgements and experience of various experts.
- A committee for business forecasting is formulated to take a joint view of various members.
- An attempt is made to evolve consensus for predicting the future on the basis of their views.
- Scientific Business Forecasting
- Forecasting under this method is done on scientific lines by making use of various statistical tools such as Business index or Barometer, Extrapolation or Mathematical projections, regression and economic models.
- Past statistical data are modified in light of changed present conditions which acts as the raw material for drawing accurate conclusions for the future.
Some of the major statistical tools used in business forecasting are:
Business Index or Barometer
- Business index refers to a series relating to business conditions.
- A business index number may relate to general conditions of business or industry or may relate to a particular business or industry.
- The index number may measure changes in business activity during cyclical; variations such as boom, decline, depression and recovery.
- This is also called business barometer since it helps in making forecasts for future business conditions.
- Business barometers are one of the most useful tools for business forecasting.
- However, in certain cases, these barometers give misleading conclusions or results due to inaccurate construction of index numbers or frequent changes in conditions.
- Normally businessmen consider the following:
- Index of Wholesale Prices
- Index of consumer prices
- Index of industrial product.
- Gross National Product
- Stock Exchange Index
- General Aggregate consumption.
Extrapolation or Mathematical Projection
- Extrapolation is the process of estimating a value for some future period, based on some assumptions.
- Extrapolated values are merely the estimates of original values.
- The base assumptions of this statistical tool include:
- There should not be sudden jumps in figures from one period to another
- The conditions in the future will not change materially.
- The regression equation y=a+bx can be used as an instrument to predict the value of y for a given value of x.
- The regression equation is highly used in physical sciences where the data are related functionally.
- In business forecasting, it is very difficult to establish a functional relationship, and hence the use of regression equation has limited applicability.
- Economic activities described in terms of mathematical equations are referred to as econometric models.
- These models show the way of interrelationships amongst various aspects of the economy.
- Since it is not possible for every business to develop its own model of the economy, the econometric models are less popular.