Demand forecasting and estimation gives businesses valuable information about the markets in which they operate and the markets they plan to pursue. Forecasting and estimation are interchangeable terms that basically mean predicting what will happen in the future. If businesses do not use demand forecasting and estimation, they risk entering markets that have no need for the business’s product.
The purpose of demand forecasting and estimation is to find a business’s potential demand so managers can make accurate decisions about pricing, business growth and market potential. Managers base pricing on demand trends in the market. For example, if the market demands for pizza is high in a city but there are few competitors, managers know they can price pizzas higher than if the demand was lower. Established businesses use demand forecasting and estimation if they consider entering a new market. If the demand for their product is currently low, but will increase in the future, they will wait to enter the market.
Managers and business owners use multiple techniques for demand forecasting and estimation. Using historical data is one method to determine the potential demand for a product or service. For example, businesses with high-end merchandise might examine census information to determine the average income of an area. Larger businesses might use test markets to estimate demand. Test markets are micro markets in small cities that are similar to larger markets. If the demand for a product is high in the test market, managers assume that the product will perform well in the larger market.
Demand forecasting and estimation is critical for inventory management. Businesses buy inventory based upon demand forecasts. For example, grocery stores increase their stock of certain items during hurricane season because they know from past data that demand increases. If businesses do not use accurate demand forecasting and estimation methods, they risk purchasing too much or too little inventory. Businesses with too much inventory might lose some of it to time and expiration dates. Businesses with too little inventory will upset customers and miss revenue opportunities.
Demand forecasting and estimation methods are typically accurate for short-term business planning. Estimating demand for the long-term is difficult because there are many unforeseen factors that influence demand over time. For example, demand estimation might not take into account an economic recession or other financial problems. Natural disasters might also affect the demand for a business’s product. To forecast long-term demand, managers must account for the social, political and economic history of their markets.