When businesses begin to plan for the coming year they engage in a series of activities to help them prepare for that, one of which is a process known as demand forecasting.
What is demand forecasting in the simplest sense? Demand forecasting involves projecting forward in terms of customer demand using historical data as well as current market trends.
Though it might sound like a form of predicting the future, demand forecasting is actually a mathematical by-product of historical, real-world data. How is demand forecasting essential to businesses?
It can help determine business planning for the next year in terms of cash flow and capital expenditure, risk and risk management, profit projection, and turnover, among others.
Because of the myriad of data points that can be used in demand forecasting, there are different types best suited to different predictive functions. These are passive, active, short-term, medium-to-long-term, external macro-level, and internal business level demand forecasting.
Passive demand forecasting is often used for small businesses with conservative growth plans. This forecasting involves very few assumptions and uses past data to make straightforward projections. While more simple in construction than some of the other types of demand forecasting, it is nonetheless quite rare today.
On the other hand, active demand forecasting is appropriate for businesses on a growth trajectory that want to accelerate that trend as well as diversify their current portfolio. These plans are aggressive and include a range of data points such as the current market, trends, and even a competitor’s activities.
Short-term demand forecasting is very different from the first two in one key area: Timeframe. These forecasting strategies often involve less than 12-months and could include forecasting for the next three, six, or nine months or whatever strategy the company might need. This is often deployed for businesses that need to gauge demand on a cyclical or seasonal period and can assist with making strategic decisions with regard to resource allocation.
Medium-to-long-term demand forecasting is similar to short-term demand forecasting in that it works within specified timeframes. As the name implies, this is a more long-range strategy or global overview of a company’s position in the market moving forward. Long-term demand forecasting can be anywhere from 16 months to 48 months.
External macro-level demand forecasting is an intriguing form or projection in that it involves the companies and environment around a firm. This can be used to determine strategic acquisitions and market entries or withdrawals as well as product development or capital expenditures. This type of forecasting seeks to reconcile how changes in the market and external environment could impact a company’s decisions and goals.
Internal business level demand forecasting is for division-level internal projections that could include anything from product development, cash flow, or sales.
As we have discussed, businesses will often employ different forms of demand forecasting towards different objectives depending on internal needs. Demand forecasting is critical to business planning in the areas of strategy implementation, marketing, budgeting, risk assessment and mitigation, and many other areas.