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Is Improved Demand Forecasting an Opportunity in a Challenging Environment?

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I was perusing through the usual financial and business sources when I came across this interesting article in the Wall Street Journal titled, “Trying Times for Forecasting”. The article focuses mostly on financial forecasts and I think we have written a fair amount about the importance of making sure financial results derive from the same sources of data, professionals, and market input as the S&OP forecast – in fact, with differences only in level of detail, all three should be the same forecast.

However, this article raises a couple of interesting issues from the macro level – i.e. the value of financial forecasts and the impacts of external forces that I thought would be fun to dig into a bit.

First, all the participants in this article, and I would probably argue all officers of public companies and some private companies, agree to the value of demand forecasting and guidance.  Specifically they list three specific areas of value:

  1. A less volatile and more fully valued stock prices (big value, sweet spot on the fiduciary responsibility component)
  2. Credibility with Analysts (never underestimate the importance of your reputation)
  3. Confidence of stockholders large and small (directly related to #1 above)

Yet at the same time the value of accurate forecasting was highlighted, concrete examples were showing where companies were sharing less information less frequently thereby making the guidance less useful.  Specifically companies are:

  1. Increasing the min-max ranges (revenue will be 100 give or take a 100)
  2. Discontinuing the more difficult yet more meaningful variables
  3. Minimizing specifics.

This somewhat contradictory dynamic (to put it as nicely as possible) probably explains the huge swings in stock prices we have seen recently when forecasts have been missed – and when I mention huge swings I mean large drops in stock prices costing shareholders potentially billions of dollars in value;  An interesting case study in how to manage shareholder value and the role of fiduciary responsibility.

I would argue it does not need to be this way. It seems to me that the answer is more information, and more of it with better quality.  Given the right tools, process and strategic objectives (oh I don’t know – make sure our stock price is fully valued), companies should be able to provide forecasts that are accurate on the bedrock variables – revenues, margins, yields, growth rates etc.  In addition, they should actually be able to provide detailed scenarios to showcase how much time, energy and thought goes into considering all the risks to the value drives of their companies – both within their industries and within the greater global market place at large.

Imagine the increase in credibility if, rather than stop reporting on yields or revenue growth, a company were able to provide detailed scenarios about what is impacting those yields or growth rates.  The global forecast for interest rates is between A on the high side and B on the low side.  If interest rates hit A, that will decrease our revenue within this range.  If interest rates hit B, that will increase our revenue within this range.  Same applies to growth rates in target markets. What happens if the Euro Zone implodes?   Exchange rates diverge from historic norms?  Sure this all complex and to a large degree inter-related but rather than give up, dive in and tackle them and use them to provide a richer context for the guidance provided.

This will improve your credibility with the entire investing community, ensure a fair value for your company, and help realize a further return on the strategic investment to improve demand forecasting.

Demand Forecasting – Proven bang for the buck on the bottom line

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Solving business problems and helping our partners create future profits – Demand Foresight is completely focused on these goals. We focus on delivering upon these through improving demand planning and overall S&OP operations and helping support transition to being a demand driven company.  Our experience in this work helps us quantify the impact of what we do – a minimum 5% improvement in pre-tax profitability.  But obviously we are not the only game in town and there is a tremendous body of work around demand forecasting and the impact of improving the forecast on various components of the supply/value chain.  It was brought up that we had never really highlighted some of this research so we went back and took a look at some of the source inspiration for our focus.  I hope you find this of value.

First up is Dr. Hau Lee.  He is the Thoma Professor of Operations, Information, and Technology at Stanford University; Co director of The Stanford Global Supply Chain Management Forum;  Director of Managing Your Supply Chain for Global Competitiveness Executive Program.

Dr. Lee’s signature idea is the “bullwhip effect,” a concept he co-developed in the 1990s, which has become a basic tenet in both academia and industry. When a person cracks a bullwhip, the small movements at the wrist produce huge waves at the other end of the whip, which describes how information on demand becomes increasingly exaggerated and distorted as it moves up the supply chain from customer to manufacturer to supplier, driving up costs and hurting efficiency.

There are several components to the cause, effect, and solution to the bullwhip effect which you can start to explore through the attached links but one key is that the demand forecasting capability plays a large role in the bullwhip and the effects can be devastating to a company’s value chain.  Specifically:

“Distorted information from one end of a supply chain to the other can lead to tremendous inefficiencies: excessive inventory investment, poor customer service, lost revenues, misguided capacity plans, inactive transportation, and missed production schedules.”

Given Dr. Lee’s long term research and cooperation with client companies, the impact of improving forecasting and focusing on demand drivers is significant.

“I have already seen some companies using new software tools to manage their businesses based on demand, with results ranging between 50% and 100% in net profit increases, which in turn can easily be translated into enormous increases in shareholder and market values.”

http://www.gsb.stanford.edu/news/bmag/sbsm1008/feature-lee.html

Next up is Dr. John Mentzer.  Dr. John T. (Tom) Mentzer was the Harry J. and Vivienne R. Bruce Chair of Excellence in Business in the Department of Marketing, Logistics and Transportation at the University of Tennessee. He was a prolific researcher and author with 5 books on value chain excellence and competitive differentiation not to mention hundreds of articles to his name.

One of his key areas of research highlighted competitive differentiation and included was a fairly definitive summary of what it took to develop a competitive differentiation in demand forecasting and demand planning.

Specifically, here are Dr. Mentzers’ 7 Keys to better forecasting:

  1. Understand what forecasting is and is not

  2. Forecast demand, plan supply

  3. Communication, cooperation, and collaboration

  4. Eliminate islands of analysis

  5. Use tools wisely

  6. Make it Important

  7. Measure, measure, measure

Most important of all was that Dr. Mentzer extended his research, through the help of many colleagues and collaborators, to the measurable impact (following his own guidance – measure) on a company’s performance.  There are a number of components to the result most of which you can begin to explore through the included links but from the point of view of an executive and/or member of the vaunted c-suite with specific fiduciary responsibility to all stakeholders of a company – the single most clarifying result of improved forecasting highlight by Dr.  Mentzer:

An increase of shareholder value of 15% or more!

http://bus.utk.edu/supplychain/forecasting/docs/Impact%20of%20Forecasting%20F99.pdf

http://www.uam.es/personal_pdi/economicas/rmc/prevision/pdf/seven_keys.pdf

Lastly, we referred to our friends at Garter which includes the recently merged business/supply chain analysts from AMR Research.  There are a host of strong practitioners such as Noha Tohamy, Tim Payne, Mike Griswold, Dennis Gaughin, and Steve Steurterman just to name a few. Since January 2011 they have published a large number of research papers and articles that highlight the impact of improved demand forecasting.  Unfortunately here we cannot include the source documentation links as that goes against policy and legal agreements, but please feel free to contact Gartner directly (www.gartner.com).  As they are a potentially important source of information for companies looking to make strategic investments in demand forecasting, sales and operations planning, and demand driven supply chains and networks.

Relevant to this blog post, their cumulative research has pointed to some significant findings.

Gartner’s measurable impacts of improved forecasting and demand planning:

  1. 1% to 3% revenue increases

  2. 15% to 30% inventory reductions

  3. 20% to 30% order fill rate increases (Demand Foresight note – important to do 2 and 3 simultaneously)

  4. 10% to 15% decreases in obsolete inventory

  5. 3% to 5% increases in gross margin

Independent of Demand Foresight and its experiences working with it partners, there is great research ongoing that undeniably highlights the benefits of focusing on improving demand forecasting and demand planning.  However, one consistent anomaly (kind of an oxymoron – A consistent anomaly?) that we notice is that while this highlighted research above as well as others all emphasize the importance of demand forecasting and measure the benefits of improved demand planning, very few of them talk about specific impacts based on higher percentages of accuracy.  Our suggestion and potential contribution to the field is what is the impact of improving accuracy by 5%? 10%?

Or as we ask all of our partners and potential partners – what would a minimum 25% reduction in forecast error mean to your bottom line?  Judging from our experience and the research– a huge amount!

 

Demand Forecasting Is More Than Technology

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Demand Forecasting. It hurts me to say, it needs to be more than Technology.

We have recently been working with a terrific organization; they are in the steel business and located in the southeast of the U.S.  In my mind, they are terrific not only because they offer great products and service but they do so by operating the right way.  They focus on taking care of their people and depending on those people to focus on constantly improving operational processes that drive innovation.

Their focus on innovation is one reason we have gotten the opportunity to get to know them.  And it has reinforced some critical components necessary for successful demand forecasting and planning beyond technology.  Now don’t get me wrong, we are not suddenly becoming consultants that believe everything can be sorted by process design or strategy reviews; we still firmly believe that investing in an improved forecasting platform is the single fastest and proven way to measurably improve pre-tax financial performance. However, it is not all about technology – in order to capture the long term financial benefits and set the stage for continuous improvements, the technology upgrade needs to be part of a program that addresses process and accountability.

From the process point of view, the specifics of the process are not the emphasis of this conversation. You want to make sure that you take advantage of your new platform to improve the process – eliminate manual steps, reinforce workflow, and help support decision making. What’s more important is the focus on executing the process with discipline and collaboration. The discipline is directly related to measurement (nothing new to the thought that an organization will only execute what is measured).  However, what most companies fail to do is to use the improved technology to improve what they “can” measure.  For example, most companies are used to measuring accuracy at product family level or product lines.  However, no company actually makes or distributes a product family or product line. They make the actual individual products at specific locations for specific customers.  This is what we call the execution level and it represents the detail necessary to utilize the forecast to drive measurable improvement in the value chain.

In addition to improving measurement, it is also critical to improve collaboration.  With an improved platform, you will have the basis for inviting more participants into the process. Each of these new participants represents valuable sources of information for improving the forecast–Some examples? If not already actively involved, then sales and marketing need to be included with specific responsibilities.  Inventory managers have a significant role to play as does finance.  Then to really take advantage of your investment, think about how to extend your collaboration to include customers and vendors; then, perhaps your distributors and analysts.  The key is that the right technology platform can facilitate collaboration which allows for a much more accurate forecast.

The discipline and collaboration is greatly enhanced by the human accountability improvements.  As you have heard us emphasize in this blog and in our presentations, the single most important organizational move a company can make to reinforce improving forecast accuracy is to specifically designate a senior officer accountable for an accurate forecast.  Period.  Sorry, one more thing. Make sure part of their compensation is tied to the forecast accuracy. From our experience, ideally this is the most senior sales person in the organization. But we have seen it work well when the accountability resides within finance or operations (see collaboration above). The key is specific accountability at a senior level with compensation at risk.  All the other components of human performance are important – training, org design, skill sets etc.  However,  to set your organization up for long term and measurable success in forecasting, no other organizational improvement will drive more success.

And these are well worth the effort to put in place.  First you want to take advantage of your investment in new technology. And second, you want to deliver profit optimization for your company. And it takes more than technology – as much as that hurts me to say.

Doing what “is required”

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“It is not enough that we do our best; sometimes we must do what is required.”

― Winston Churchill

I have been watching the Olympics with great interest; the achievements by so many athletes from so many countries have fulfilled every aspect of the Olympic dream.

In addition, it has been great to see so many different parts of London, a city I used to visit frequently in travelling back and forth to Dubai so there has been a certain nostalgia intertwined with the excitement of the competitions.

Which of course gets one thinking about the great characters of English history and as one is re-introduced to Winston Churchill, it becomes obvious that what he accomplished, and what he helped his country achieve, was dramatically more tremendous than even the recently concluded London Olympics.  And in reading through some of his quotes, the one I have included at the top of this blog really resonates with me. Continue reading →

Forecasting MUSTS for profitability every day and after disasters.

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Supply Chain Resilience is not just for tsunamis and plant fires. The steps you put into place to prepare for manufacturing catastrophes should also benefit your daily operations and bottom line. How quickly we forget the chaos that ensues for supply chain practitioners after a major disaster.  Almost a year after the tsunami hit Japan, the harrowing headlines about the failures which will ensue if you’re not adequately prepared are gone and we’re back to business as usual. Continue reading →