Forecasting

Principles in Marketing Engineering

Gary L. Lilien, Arvind Rangaswamy & Arnaud De Bruyn
Trafford
2007
1
 Managerial Issues Related to
Forecasting

 What is the purpose of developing the forecast?

 What, specifically, do we want to forecast (e.g., market
demand, technology trends)?
 How important is the past in predicting the future?
 What influence do we have in constructing the future?
 What method(s) should we use to develop the forecast?
 What factors could change the forecast?
 Forecasting Methods

Market and
Survey Causal
Judgmental Analysis Time Series Analyses
Salesforce Buyer intentions Naïve methods Regression
composite analysis
Product tests Moving averages
Jury of executive Econometric
opinion Chain ratio Exponential models
method smoothing
Delphi methods Input-output
Box-Jenkins analysis
Scenario analysis method
MARMA
Decompositional
methods Neural networks
Methods for Forecasting
New Product Sales

Early stages of development

Chain ratio method
Judgmental methods
Scenario analysis
Diffusion model

Later stages of development

Pre-test market methods
Test-market methods
 Chain Ratio Method
(Estimate of Online Grocery Sales)
 Number of households (2000 census) 105 million
 Grocery purchases per household per year (52x120) $5300
 % of sales from Supermarkets and grocery stores 84%
(Progressive Grocer)
 Households with children (married and unmarried – Census) 35%
 % of households with Internet access (Census Bureau) 58%
 Will order groceries online if available (Survey) 25%
 Discount of survey intentions 50%
 Online grocery shopping availability (guess) 40%
 Awareness given availability (guess) 50%

 Market forecast: $ ???

 Intent-to-Buy Scale Used for
Generating Some Inputs to Chain Ratio

1. Definitely would buy

2. Probably would buy

3. May or may not buy

(May be excluded from the scale)

4. Probably would not buy

5. Definitely would not buy

Who Are They?
New Product Forecasting Models
That We Consider

 Forecasting the pattern of new product adoptions (Bass

Model)

 Forecasting market share for new products in established

categories (Assessor pre-test market model)

 Forecasting using conjoint analysis

 Forecasting Based on
―Newness‖ of Products

• Repositioning • Breakthroughs—Major
Hi

Pre-test market model Product Modifications

Bass model/Conjoint
New to
World
• Line Extensions • ―Me Too‖ Products
Lo

Simple pre-test market Conjoint/Pre-test

models (e.g., Bases) market models

Lo Hi

New to Company
 Overview of ―Stage-Gate‖ New
Product Development Process

Opportunity Identification Reposition

Market definition Harvest
Idea generation
Life-Cycle Management
Go No Market response analysis & fine tuning the
marketing mix; Competitor monitoring & defense
Innovation at maturity
Design
Identifying customer needs Sales forecasting
Product positioning Engineering Go No
Marketing mix assessment Segmentation
Introduction
Go No Launch planning
Tracking the launch
Testing
Advertising & product testing
Pretest & prelaunch forecasting Go No
Test marketing
 The Bass Diffusion Model of
New Product Adoption

The model attempts to answer the question:

When will customers adopt a new product or
technology?

Why is it important to address this question?

Helps in planning major investments (e.g., building a
factory) with respect to the product.
 Graphical Representation of
The Bass Model (Cell Phone Adoption)
Non-cumulative Adoptions, n(t)

Adoptions due to internal influence

Adoptions due to external influence

pN

Time
 Number of Registered Users
eBay (by Quarter)
million
225
210
195
180
165
150
135
120
105
90
75
60 1997
45 Q1 0.09
30 Q2 0.15
Q3 0.25
15 Q4 0.40
0
1997 '98 '99 '00 '01 '02 '03 '04 '05 '06
Source: eBay/SEC filings
 The Bass Diffusion Model for
Durables

nt = p  Remaining + q  Adopter Proportion 

Potential Remaining Potential
Innovation Imitation
Effect Effect

nt = n umber of adopters at time t (Sales)

p = ―coefficient of innovation‖ (External influence)
q = ―coefficient of imitation‖ (―internal‖ to the society
in which the diffusion spreads)
N = Eventual number of adopters
# Adopters = n0 + n1 + • • • + nt–1
Remaining = Total Potential – # Adopters
Potential
 Assumptions of the
Basic Bass Model

 Diffusion process is binary (consumer either adopts, or waits to adopt).

 Constant maximum potential number of buyers ( ).
 Eventually, all will adopt the product.
 No repeat purchase, or replacement purchase.
 The impact of word-of-mouth is independent of adoption time.
 Innovation is independent of substitutes.
 The marketing strategies supporting an innovation are not explicitly
included.
 Uniform influence or complete mixing. That is, everyone in the
population knows everyone else, or is at least able to communicate with, or
observe everyone else.
Representation as an Equation

 N (t ) 
n( t )  [ N  N ( t )] p  q  ...(1)
 N 
N(t) : Cumulative number of adopters until time t.
Parameters of the Bass Model in
Several Product Categories
Innovation Imitation
Product/ parameter parameter
Technology (p) (q)

B&W TV 0.065 0.335

Color TV 0.021 0.583
Room Air conditioner 0.010 0.454
Clothes dryers 0.073 0.389
Ultrasound Imaging 0.003 0.506
CD Player 0.028 0.368
Cellular telephones 0.005 0.506
Steam iron 0.036 0.318
Oxygen Steel Furnace (US) 0.001 0.456
Microwave Oven 0.018 0.337
Hybrid corn 0.000 0.798
Home PC 0.003 0.253

A study by Van den Bulte and Stremersch (2004) suggests an average value
of 0.03 for p and an average value of 0.42 for q, The average was
taken across a couple of hundred categories.
Estimating the Parameters of the
Bass Model
 Estimation using data
 Regression
 Specialized nonlinear estimation

 Estimation using analogous products

 Select analogous products based on the similarity in
environmental context, market structure, buyer
behavior, marketing-mix strategies of the firm, and
innovation characteristics.
Forecasting Using the Bass Model—
Room Temperature Control Unit
Cumulative
Quarter Sales Sales

Market Size = 16,000

(At Start Price) 0 0 0
1 160 160
Innovation Rate = 0.01 4 425 1,118
(Parameter p) 8 1,234 4,678
12 1,646 11,166
Imitation Rate = 0.41 16 555 15,106
(Parameter q) 20 78 15,890
24 9 15,987
Initial Price = $400 28 1 15,999
32 0 16,000
Final Price = $400 36 0 16,000

Example computations n( t )  pN  (q  p) N ( t  1)  (q / N ) N 2 ( t  1)
Sales in Quarter 1 = 0.01  16,000 + (0.41–0.01)  0 – (0.41/16,000)  (0)2 = 160
Sales in Quarter 2 = 0.01  16,000 + (0.40)  160 – (0.41/16,000)  (160)2 = 223.35
 Factors Affecting the
Rate of Diffusion
Product-related
 High relative advantage over existing products
 High degree of compatibility with existing approaches
 Low complexity
 Can be tried on a limited basis
 Benefits are observable

Market-related
 Type of innovation adoption decision (e.g., does it involve
switching from familiar way of doing things?)
 Communication channels used
 Nature of ―links‖ among market participants
 Nature and effect of promotional efforts

Source: Everett Rogers

 Some Extensions to the
Basic Bass Model

 Varying market potential

As a function of product price, reduction in uncertainty in product
performance, and growth in population, and increases in retail
outlets.

 Incorporating marketing variables

 Incorporating repeat purchases

 Multi-stage diffusion process

Awareness  Interest  Adoption  Word of mouth

 Incorporating Network Structure

 Example Application of Bass Model
DirecTV (History and Technology)

 1984 FCC grants GM Hughes approval to construct a

Direct Broadcast Satellite system (DBS)
 High Ku Band frequency
 Early 1990‘s technological breakthrough in digital
compression. Result: Affordable product and non-
obtrusive dish and equipment
 Changed economics of DTH broadcasting
 1991 DIRECTV founded
 DirecTV
Data Collection Method

 CATI (Computer-Assisted Telephone Interview) data

collection - nationally representative sample of TV viewers.
 15-minute phone interview. ―Eligibles‖ assigned to one of
two monadic concept-price cells (―Intent to Buy‖).
 Respondents mailed a color brochure that described
DIRECTV/RCA branded Direct Broadcast System concept.
 Phone callback interview (22 minutes)-Key inputs: Stated
Intentions (Probability of Acquire and Perceived value and
Affordability).
 Obtaining p, q, and N

 Guessed p and q from analogous previously

introduced product
 N obtained from stated intentions in survey
 Average stated intent from survey = 32%
 Stated intentions overstate actual choices. How much
to discount stated intent to adopt? (They discounted
by 50%)
 Also, have to adjust each year‘s predicted sales for
actual levels of awareness and availability of product
in the entire market.
 Adjusting Stated Intentions to
Get Actual Purchase Behavior
Probability of purchase given stated intent for new durable and non-durable products. From Jamieson, Linda F. and
Frank M. Bass "Adjusting Stated Intention...To Predict Trial Purchase of New Products," JMR, August 1989.

45

Probability of Purchase (within six months)

40
Increases with Stated Intention
35

30
Probability of Purchase

25
Some Who Say
Some Who Say They Will, Don’t
20
They Won’t, Do!
Purchase Increases with
15
Stated Intention

10

0
Definitely Will Not Buy Probably Will Not Buy Might or Might Not Buy Probably Will Buy Definitely Will Buy

Actual Purchase Probablity Given Stated Intention for 5 Non-Durable Products Actual Purchase Probability Given Stated Intention for 5 Durable Products
 Multi-Year Forecast and Actual

1992 Forecast Actual Number of 1992 Forecast of Actual Yearly

Number of TV TV Homes Percent of TV Percent of TV
Homes Acquiring Acquiring Satellite Homes with Homes with
Satellite Television Television Satellite Television Satellite Television
Year (Million) (Million) (Percentage) (Percentage)
7/01/94 - 6/30/95 0.875 1.15 0.92 1.21
7/01/95 - 6/30/96 2.269 3.076 2.37 3.21
7/01/96 - 6/30/97 4.275 5.076 4.42 5.25
7/01/97 - 6/30/98 6.775 7.358 6.95 7.55
7/01/98 - 6/30/99 9.391 9.989 9.55 10.16
9.4 Million TV homes forecast for
June 99; Actual = 9.9 Million

Forecast based on p and q of Cable TV (other alternative considered was Color TV) and maximum
penetration set to 16% of population (half that in the stated intent survey).
Multi-Year Forecast-Actual Graph

92 Forecast Was Not Updated

 Using Scenario Analysis
for Calibrating the Bass Model
 Structure a scenario as a flowing narrative, not as a set of numerical
parameters. Include verbal descriptions such as ―rapid experience
effects,‖ ―FCC adoption of digital standard,‖ etc. Ideally, each scenario
should also include how the situation described in the scenario will be
reached from the present position.

 Construct several scenarios that capture the richness and range of the
―possibilities‖ relevant to a decision situation. Describe all the scenarios
in the same manner, i.e., one is not more ―vivid‖ than another. Focus
your further analyses on scenarios that are internally consistent and
plausible. Develop forecasts and strategies that are compatible with the
scenarios. The strategies include:
 Robust actions that are resilient across scenarios (e.g., hedging,
concurrent pursuit of multiple options, etc.)
 Contingent actions that postpone major commitments to the future.
 Steps in Scenario Planning
(Example for Zenith HDTV)
 Identify the major stakeholders.
 Summarize the core trends that are relevant (technological,
economic, social, etc.) within the time frame of interest.
 Articulate the main uncertainties (e.g., TV studio adoption of new
filming methods).
 Construct an initial set of scenarios.
 Assess the consistency and plausibility of the scenarios.
 Create ―themes‖ (i.e., a story with a name) that combine some
trends into meaningful composites (e.g., a Japanese domination of
hardware and American domination of software).
 Identify areas where you need more research (e.g., consumer
acceptance) and seek additional information.
 Associate the final set of scenarios with potential product analogs
for diffusion model, select p and q, and generate the forecasts.
 Evaluate strategic and tactical choices that will help you realize the
forecasts in the most cost effective manner.
 Example ―Middle of the Road‖
Scenario (Zenith HDTV case)
The FCC makes a commitment to the 16:9 NTSC HDTV standard in 1994, with promises to
release details in a year. Initial HDTV sets cost over $3,000 and are seen as a luxury item,
little programming is available so new features (such as use as computer monitors and
compatibility with analog signals) are integrated to justify purchases. Art studios and other
display locations become innovators as they purchase units for displays. Interior designers
realize the benefits of HDTV plasma screens and suggest purchases to their wealthiest clients.
HDTV becomes a ―nouveau riche‖ item, a status symbol much like luxury cars. By 2000, the
manufacturing costs of Plasma and other flat-screen displays decrease drastically from
standards integration and increased competition. Middle-class customers can now afford
HDTV displays. The movie industry embraces digital recordings because of the ease in
editing and persistent quality. New movie features (screen and TV) are filmed in 16:9 digital
format. Subsequent releases on DVD show higher quality. Public TV stations cannot justify
the cost of upgrading, but cable channels such as HBO and Showtime commit to upgrading in
2003. Their recent entry into movie-making and their purchase of new high-tech digital
recording equipment coincides with the need to upgrade transmission hardware. Customers
are then driven to adopt technology not for increased quality on regular programming, but for
movie watching, design, and display of other items.
 Comparative Trajectories of Population/GDP
From Global Scenario Group

250
Conventional
Gross World Product ($ trillions)

Great Transition Worlds

Eco-communalism Policy Reform

Market Forces

New sustainability
paradigm
Fortress World
20
1990 Breakdown
Barbarization

5 Population (billions) 10
 Pretest Market Models

 Objective
Forecast sales/share for new product before a real
test market or product launch

 Conceptual model
Awareness  Availability  Trial  Repeat

 Commercial pre-test market services

 Yankelovich, Skelly, and White
 Assessor
 Others (e.g., BASES)
 Yankelovich, Skelly and White
Model (Chain Ratio Method)
Forecast market share = S  N  C  R  U  K
where:
S = Lab store sales (indicator of trial),
N = Novelty factor of being in lab market. Discount sales by 20–40% based on
previous experience that relate trial in lab markets to trial in actual markets,
C = Clout factor which retains between 25% and 75% of SN determined, based
on proposed marketing effort versus ad and distribution weights of existing
brands in relation to their market share,
R = Repurchase rate based on percentage of those trying who repurchase,
U = Usage rate based on usage frequency of new product as compared to the new
product category as a whole, and
K = Judgmental factor based on comparison of S  N  C  R  U  K with
Yankelovich norms. The comparison is with respect to factors such as size
and growth of category, new product‘s share derived from category
expansion versus conversion from existing brand.
 Overview of ASSESSOR
Modeling Procedure

Management Input Consumer Research Input

(Positioning Strategy) (Laboratory Measures)
(Marketing Plan) (Post-Usage Measures)

Preference Trial &

Model Repeat Model
Reconcile
Outputs

Draw &
Cannibalization
Estimates Brand Share Unit Sales
Diagnostics
Prediction Volume
 Overview of ASSESSOR Measurement
Process
Design Procedure
O1 Respondent screening and
recruitment (personal interview)
O2 Pre-measurement for established
brands (self-administrated
questionnaire)
X1 Exposure to advertising for established
brands and new brands
[O3] Measurement of reactions to the
advertising materials (self-
administered questionnaire)
X2 Simulated shopping trip and exposure
to display of new and established brands
O4 Purchase opportunity (choice recorded
by research personnel)
X3 Home use/consumption of new brand
O5 Post-usage measurement (telephone
O = Measurement; X = Advertising or product exposure
Measurement
Criteria for target-group identification
(e.g., product-class usage)
Composition of ‗relevant set‘ of
established brands, attribute weights
and ratings, and preferences
Optional, e.g. likability and
believability ratings of advertising
materials
Brand(s) purchased
New-brand usage rate, satisfaction ratings, and
repeat-purchase propensity; attribute ratings
and preferences for ‗relevant set‘ of
established brands plus the new brand
 Predicted and Observed Market
Shares for ASSESSOR
Deviation Deviation
Product Description Initial Adjusted Actual (Initial – (Adjusted –
Actual) Actual)

Deodorant 13.3 11.0 10.4 2.9 0.6

Antacid 9.6 10.0 10.5 –0.9 –0.5
Shampoo 3.0 3.0 3.2 –0.2 –0.2
Shampoo 1.8 1.8 1.9 –0.1 –0.1
Cleaner 12.0 12.0 12.5 –0.5 –0.5
Pet Food 17.0 21.0 22.0 –5.0 –1.0
Analgesic 3.0 3.0 2.0 1.0 1.0
Cereal 8.0 4.3 4.2 3.8 0.1
Shampoo 15.6 15.6 15.6 0.0 0.0
Juice Drink 4.9 4.9 5.0 –0.1 –0.1
Frozen Food 2.0 2.0 2.2 –0.2 –0.2
Cereal 9.0 7.9 7.2 1.8 0.7
Etc. ... ... ... ... ...
Average 7.9 7.5 7.3 0.6 0.2
Average Absolute Deviation — — — 1.5 0.6
Standard Deviation of Differences — — — 2.0 1.0
 ASSESSOR Trial & Repeat Model
Market Share Due to Advertising

Response Mode Manual Mode % making first purchase

•Max trial with GIVEN awareness &
unlimited Ad % buying brand in availability
simulated shopping % making first
•Ad$ for 50% 0.42 purchase due to
max. trial advertising
•Actual Ad $ Awareness
estimate 0.235
Prob. of awareness
•Max awareness 0.70
with unlimited Ad Long-term
•Ad $ for 50% Distribution Prob. of availability market share
max. awareness estimate 0.80 from advertising
•Actual Ad $ 0.049

Switchback rate of non Retention rate

purchasers 0.16 GIVEN trial
Generalization of As implemented
Assessor for those who
in Assessor saw ad 0.211
implementation Repurchase rate
for purchasers
0.42 Source: Adapted from Thomas Burnham
 ASSESSOR Trial & Repeat Model
Market Share Due to Sampling
Correction for Cumulative trial
sampling/ad (previous chart)
Sampling, Number Proportion of market overlap 0.075 0.235
Delivered 30M using samples
12.96/40 = 0.32
% Delivered 0.90

% of those delivered Assumes First repeat for

hitting target 0.80 40 million Net incremental
households
those not buying
trial in simulation
Sample use in in target
0.245 0.26
market
simulation 0.60

Switchback rate for

non-purchasers in Prob. of switching
previous time period to brand
0.15 Long-term market
Repurchase rate of Long term repeat share from sampling
those not buying in Prob. of repurchase rate for sample 0.011
simulation of brand receivers
0.26 0.169
Source: Adapted from Thomas Burnham
 ASSESSOR Preference Model
Summary
Pre-use preference
ratings Beta (B) for Pre-entry market
choice model shares
Pre-use constant
sum evaluations
Pre-use choices

Post-entry market
Post-use preference shares (assuming
Post-use constant
ratings consideration
sum evaluations
0.243
Cumulative trial Proportion of
from ad consumers who
(T&R model) consider product
0.235 Predicted Draw &
0.202
post entry cannibalization
market shares calculations
0.057

Source: Adapted from Thomas Burnham

 ASSESSOR Market Share to
Financial Results Diagrams
Market share
Company
0.06
Industry average factory sales
sales for realized 49.6M
Market size
market share Unit-dollar
40M
52.8M adjustment
0.94
Average annual
sales per Frequency of use
household $22 Price differences
differences
1.04
0.9
Company
factory sales
49.6M Net
Contribution
Average 18.82M
Return
unit margin on
0.581 sales
Company
38%
Ad/sampling factory sales
expense 49.6M Note: Market share from Trial/Repeat Model: 0.060
4.0/6.0M Market Share from Preference Model: 0.057

Source: Adapted from Thomas Burnham

 Recap

 Judgmental methods and Chain ratio approach can be applied in a

wide range of forecasting situations. We will cover one judgmental
method (Delphi method) when discussing Resource Allocation
models developed based on managerial judgment.

 Bass diffusion model is useful for forecasting the adoptions of a

new to the world product (e.g., a new technology or trend)

 Pre-test market models are useful for forecasting products that have
repeat purchase potential (e.g., consumer packaged goods).