The Effect of Demand Uncertainty on the EVPI of One-Period Seasonal Goods Production Systems

Abstract

How to satisfy and predict customer's needs is one of the most important jobs for a business. In general, the precision of demand forecasting is closely related to the effort or money invested in forecasting and the nature of demand. In this paper, we develop a simple one-period model to study how the decision-maker of a seasonal good production system to determine the appropriate amount of budget spent in forecasting. We find there is an upper bound of the budget invested in forecasting. This upper bound represents the optimal potential benefits bought by forecasting and is denoted as expected value of perfect information (EVPI). We also find that when market size is appropriate, the EVPI has a maximal value. However, when demand becomes more uncertain, the EVPI increases.