decision-making techniques

• quantitative sales forecasting

  numerical methods to calculate how much a business expects to sell in the future
• sales forecasting - HR plan

  in order to ensure that, in the medium to long term, the right number of staff with the right skills are employed, and in the short term the right number of staff are actually at work, the HR department will carefully consider sales forecasts
• sales forecasting- cash flow forecast

  in order to estimate cash inflows, and , for any variable costs, to estimate cash outflows, cash flow forecast is based on a sales forecast
• sales forecasting- profit forecasts and budges

  when planning how much the firm is expecting to make in revenue and profit, the basis will be accurate sales forecasts. these will help to shape expectations of spending, as shown in budgets for different departments
• sales forecasting - production planning

  if the business is to satisfy demand for its product or service it will need to ensure that enough products are made, and before that, that enough raw materials are bought. planning production and inventory levels will take place by working backwards from sales forecasts
• in order to forecast sales for an existing business

  the commonest method used is to identify past trends. these trends form the basis of the three quantitative sales forecasting techniques you need to understands:

  • moving averages
  • extrapolation
  • correlation
• moving averages

  a quantitative method used to identify underlying trends in a set of raw data

  adding several months worth of raw data then calculating the average
• time series data

  a series of figures covering an extended period of time
• forecasting sales using extrapolation

  means predicting by projecting past trends into the future

  assuming past trends will continue

  challenge is when the trend is not quite as clear cut
• scatter graphs (correlation)

  plotting the relationship between two variables on a scatter graph can provide great insight relating to the extent to which those variables are linked. where there is a link between sales and another variable, the relationship can be used to forecast sales if the other variable is controlled or predictable. examples:

  • sales and advertising expenditure
  • sales and temperature
  • sales and number of stores open
  • sales and staff bonuses
• limitations of quantitative forecasting techniques

  • the future may not be like the past: changes in external factors, unpredictable
  • quality relies on the ability of the forecaster to interpret data. decision making is needed, such as whether a dip in trend is likely to continue long term
• investment appraisal

  the process of using forecast cash flows to assess the financial attractiveness of an investment decision, linked with a consideration of non-financial factors

  the methods:

  • payback period
  • average rate of return
  • net present value
• pay back period

  assessing the period of time a business must wait until the initial investment has been recovered allows firms to prioritise risk reduction when making investment decisions

  occurs when cumulative cash flow reaches zero

  outlay standing/monthly cash flow in year of payback

  calculates length of timemoney invested is 'at risk'. once occurred, the firm not losing money on its investment. thus, quicker payback is best.

  however, quick payback may not always be most profitable in long term, so another method of investment appraisal should be considered along side payback period
• average rate of return (ARR)

  considered the profit generated by an investment

  total net profit/number of years/initial cost x 100
• strengths and limitations of payback period(investment appraisal technique)

  +easy to calculate and understand

  +ignores longer term forecasts which may be less accurate

  +takes into account the timing of cash flow

  +very useful for businesses with weak cashflow

  -tells us nothing about profitability

  -ignores what happens after payback is achieved

  may encourage a short-termist attitude
• strengths and limitations of average rate of return (investment appraisal technique)

  +clear focus on profitability

  +considers cashflows over the whole projects lifetime

  +easy to compare with other measures of return expressed as percentages, such as interest rates

  -ignores timings of cashflows

  -therefore values far distant inflows as much as more immediate inflows, which are worth more

  -including forecast data from far in future may may reduce reliability therefore results
• strengths and limitations of net present value (investment appraisal technique)

  +takes the opportunity cost of money into account

  +one calculation that considers both amount and timing of cashflows to indicate profitability

  -complex to calculate and communicate

  -meaning is often misunderstood

  -only comparable between different projects if initial outlay is the same
• non-financial factors affecting investment decisions

  • corporate objectives
  • company finances
  • confidence in data
  • social responsibilities
• other factors affecting investment decisions

  • investment criteria:specific targets that directors may set that any investment is required to reach before it can be approved.such as:payback within 3 years, ARR of at least 15%, positive NPV using 10% discount factors
  • risk and uncertainty
• decision tree

  a diagram showing the options and possible outcomes involved in making a decision along with the probabilities of outcomes occurring
• advantages vs disadvantages of decision trees

  +allows for uncertainty

  +forces managers to consider all options

  +problems are set out clearly, encouraging a logical approach

  +quantification

  -gathering data required is hard likely to involve an element of guess work

  -previous occurrences cannot be used, reduces reliability

  -bias

  -can lead to failure to consider qualitative aspects
• critical path analysis

  a technique used in planning the most time-efficient way to complete complex projects. can be crucial in order to:

  • get a product to market as quickly as possible
  • construct new premises to move into as quickly as possible
  • move offices or production facilities to a new location