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Probability management

Matthew Leitch discusses the most interesting developments in forecasting and decision-making.

For people involved in financial and business forecasting and decisions, one of the most interesting developments in the past decade has been the bundle of ideas known as ‘probability management’.

Those core ideas address some familiar challenges: co-ordinating and combining forecasts from different parts of an organisation; reducing the level of skill needed to do forecasts that properly reflect uncertainty; and making methods available across a range of different types of software, starting with the familiar spreadsheet. These contribute to better management, especially management of risk.

Co-ordinating Forecasts

Imagine that an organisation consists of three divisions and each is asked for a forecast of results to the year-end. To help with understanding the uncertainty involved, they are asked for three forecasts: one that is average, one that is optimistic, and one that is pessimistic.

What is the forecast for all three divisions combined? In particular, can we just add up the optimistic forecasts to get an overall optimistic forecast and add up the pessimistic forecasts to get an overall pessimistic forecast? The answer is: not safely. The problem is that each division will have imagined the conditions that would give them a good result and the conditions that would give them a bad result. Those conditions might not be the same for each division so they might not happen at the same time.

This is an extract from the Business & Management Magazine, Issue 268, October 2018.

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