What is Bullwhip Effect in Supply Chain: Causes, Examples, & How Can It Be Prevented?

The bullwhip effect in the supply chain refers to the phenomenon of demand signals amplifying as they move through the supply chain. The bullwhip effect is central to the supply chain because it plays an important role in determining the efficiency of the supply chain and the cost of services

What is The Bullwhip Effect in Supply Chain?

The bullwhip effect in supply chain management is a phenomenon defined by the amplification of variability of orders as they flow in the supply chain compared to the variable of customer demand. This results in seasonal stock variations, which cause stock-outs or excessive inventory. On the other hand, small changes in customer needs may result in huge changes in orders from the suppliers. An MIT Sloan Management Review study reveals that this results in more wastage and increased supply chain costs.

The term ‘Bullwhip Effect’ was coined from supply chain management, where oscillating and amplifying movements were observed, just like movement at the end of a bullwhip after a small flick at the handle. This term was coined in the 1990s by the executives of Procter & Gamble who observed the volatility of the supply chain for products like Pampers diapers. They also noted that although consumer spending was fairly stable, there was considerable fluctuation in orders from retailers, and even more so at the upper tiers of the supply chain, including distributors and suppliers. This phenomenon is analogous to the fact that the amplitude of a whip’s motion varies in a similar manner, which is why it is called the ‘Bullwhip Effect.

This occurs when a retailer alters the quantity of a product that it procures from wholesalers due to a small variation in the actual or expected demand for that product. Since the wholesaler does not have complete information on the shift in demand, it will adjust its order with the manufacturer by an even bigger margin, and the manufacturer that has even less information about the shift in demand will adjust its production by an even larger margin.

Causes of The Bullwhip Effect in Supply Chain

To control the bullwhip effect in the supply chain, it is crucial to know what leads to the effect.

• Demand forecasting errors: The problem with inaccurate demand forecasting is that it can cause overreaction in the ordering of inventories.
• Order batching: These are often bought in large quantities so that the company can be able to enjoy the economies of bulk purchase. However, this results in large sequence variations in magnitude and time and this is why the bullwhip effect is realised.
• Price fluctuations: Promotions and discounts lead to stockpiling, distorting consumption and demand signals in the supply chain.
• Lack of communication: This is because the bullwhip effect is likely to be worsened by poor communication and lack of communication between the supply chain developers caused by misunderstanding of expectations.
• Longer Lead times: Fluctuations in lead time result in changes in order quantities which leads to an increase in demand distortion.
• Ration Gaming: It occurs when there is an inventory shortage upstream in the supply chain.

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Impact of The Bullwhip Effect in Supply Chain

The bullwhip effect is a dangerous phenomenon that distorts the efficiency and effectiveness of the supply chain, including:

• Increase in inventory costs: Some companies may also reserve inventory costs to ensure that they are in a position to meet demand that may be high at one time and low at other times this results in high storage costs.
• Poor customer engagement: Both situations of overuse and shortage are undesirable for the business and the customer.
• Manufacturing inefficiencies: This can lead to changes in the production cycle for manufacturers, leading to increased labour costs and decreased productivity.
• Increased transportation costs: Demand and supply can put pressure on the need to move supplies faster, and this can increase transportation costs
• Reduced Profit Margins: In conclusion, the bullwhip effect is a problem that can lead to decreased profit margins since inefficiencies are magnified across the supply chain.

The bullwhip effect can cause an increase in inventory costs by as much as 10-30% as revealed in a study conducted by MIT Sloan Management Review.

Example of The Bullwhip Effect in Supply Chain

A common bullwhip effect in the supply chain example can be seen in the consumer electronics industry:

Mobile operators and retailers see a slight increase in the sales of a particular smartphone model. 

The retailers tend to buy more units from the wholesalers to avoid situations where they exhaust their stock. On the other hand, manufacturers, seeing the increasing orders from wholesalers, buy even larger quantities to meet future needs. Suppliers raise production to meet what they perceive as higher demand from manufacturers and supply more orders. This amplified response can lead to overproduction and excess inventory at various stages of the supply chain if the initial demand is temporary. The bullwhip effect is a supply chain management problem that causes overreactions at every level of the supply chain, it can lead to amplified fluctuations at each stage and coordination disproportionality.

Use Cases For Bullwhip Effect in The Supply Chain

Several use cases illustrate the importance of managing the bullwhip effect:

1. Retail industry: One common challenge that is frequently realised in retail businesses is that they rarely sell their products at a stable rate throughout the year. It is, therefore, necessary to reduce lead-time variation, practical lead-time, order quantities, and order frequency to minimise the bullwhip effect on demand forecasting and inventory control.
2. Automotive industry: Automotive supply chain network, based on multiple tiers of suppliers and manufacturers, is extremely sensitive to demand fluctuation. It is for this reason that lean manufacturing and JIT (just in time) inventory can assist in controlling the bullwhip effect.
3. Pharmaceutical industry: Demand forecasting and sound collaboration with all the chain of supply are crucial aspects for confirming that medicines are available without having excess stocks, hence expiring.
4. e-Commerce: Reviewing the research from the literature, the authors established that due to fluctuating consumer tastes, e-commerce businesses must create a sound data analysis system to determine demand precisely and eliminate the bullwhip effect.

How to Prevent The Bullwhip Effect in Supply Chain?

To mitigate the bullwhip effect, companies can implement several strategies:

• Improve demand forecasting: Take smart purchase decisions by integrating advanced analytics and machine learning devices that blend analytical and unstructured loads in order to better predict demand.
• Enhance communication: Push and promote better and enhanced coordination and sharing of information between buyers and sellers so as to minimise the gaps existing between demand and supply.
• Reduce lead times: Shorter lead times make it easier to reply on actual lead time demand changes and decrease the reasonable safety stock.
• Implement VMI and JIT: Other concepts like vendor-managed inventory (VMI) and just-in-time (JIT) in stock management also play a significant role in mean management.
• Adopt collaborative planning: Coordinated syndications of Collaborative Planning, Forecasting, and Replenishment (CPFR) can integrate supply chain operations.

How to Reduce The Bullwhip Effect in Supply Chain?

To reduce the bullwhip effect, it is appropriate to introduce a set of actions that enhance the information flow and collaboration between supply chain members and reduce demand variability.

• Improve communication and collaboration: The estimated demand and inventory should be accurate and synchronised, and improved communication between various supply chain members can help achieve this. EDI (Electronic data interchange) and VMI (Vendor managed inventory) are some of the technologies that can improve information flow.
• Implement demand forecasting techniques: In addition, the incorporation of real-time data in the development of sophisticated demand forecasts can also help in reducing forecast errors. It is also worth noting that it is more reliable when more than one entity is involved in the process of demand forecasting.
• Stabilise pricing: One of the issues that can be solved at the moment is avoiding constant changes in the price and promotions that contribute to the instability of the demand.  Everyday Low Pricing (EDLP) strategies may be useful in preventing this situation because they can help retailers maintain demand throughout the year.
• Reduce lead times: Reduced lead times, in turn, mean that companies can react more quickly to real changes in demand, reducing the amount of safety stock needed. This can be achieved by continuous process improvement and improved relations with suppliers.
• Order more frequently in smaller batches: It is also important to order goods in small quantities and more often, as this helps control fluctuating demands and the costs of holding stocks.
• Adopt lean practices: The bullwhip effect can also be solved using lean methods that are an effort to reduce waste and bring the flow. This includes things such as the Just-In-Time (JIT) inventory as well as other processes for continual improvement.

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