Bullwhip Effect in Supply Chain Management

What is Bullwhip Effect in Supply Chain?

The concept of bullwhip effect was first mentioned by Procter and Gamble in order to explain the increase in variance in demand of Pamper diapers from the customer to the supplier (Lee et al., 1997). As per Lee, Padmanabhan and Whang (1997), the bullwhip effect is when change in one end causes an exponential change in the other end. In supply chain, the bullwhip occurs when change in consumer demand causes the companies to order more goods to meet the new demand.

The increase in demand flows upstream in the supply chain, starting with the end user, retailer, wholesaler, distributor, manufacturer and then supplier to manufacturer. The increase in demand compounds as the demand of each supply chain node is based on the demand forecasted by the company and not the end user.  

The bullwhip effect is also known by various other names such as ‘whiplash effect’, ‘whipsaw effect’, ‘acceleration principle’ etc. (Ertek 2008). The essence of supply chain management, to match the customer demand with supply fosters the forecasting by managers in different distribution channels. This leads to increase in costs- inventory holding host, variability- difference between demand and supply which magnifies as one moves upstream in the supply chain cycle.

Fig 1: Bullwhip Effect in Supply Chain Management

Example of Bullwhip Effect

In this example, amplification of demand from customer to manufacturer is 8 times. When the customer demands only 5 units of a product, the echelons start maintaining a safety stock at every level thereby increasing the amount of manufacturing exponentially. The above graph shows that the high variability that can exist due to bullwhip effect. Although the impact of bullwhip cannot be eradicated completely but understanding the reasons for such high variance can help to reduce the bullwhip effect.

Fig 2: Example of Bullwhip Effect

Reasons of Bullwhip Effect

1)    Demand Signal Processing

Demand is forecasted by various companies based on historical data. When the demand placed by downstream echelon increases, the upstream echelon considers this as an increase in overall market demand. The forecasted future demand requires safety stock to be maintained by upstream echelons. The situation results in higher order variance as compared to the actual demand, giving rise to bullwhip effect.

2)    Order Batching

The various nodes in supply chain management use push ordering strategies or periodic ordering and do not place the orders immediately (Lee et al., 1997). In both the cases, the upstream echelon faces a higher demand variability than the downstream echelon. Hence, a bullwhip effect occurs due to a higher variance in the companies’ order patterns as compared to the consumer’s demand pattern.

3)    Price Fluctuations

Price fluctuation can occur due to any reason like discounts, coupons, seasonal discounts, forward buy rates etc. A higher variance in price fluctuation makes it difficult to estimate the actual consumption pattern and hence the misinformed data to the upstream echelons creates higher variance leading to bullwhip.

4)    Shortage Gaming

Shortage gaming causes bullwhip as demand variance is amplified from customer to the supplier. When the demand exceeds supply the downstream members place a higher demand than market demand to meet the market needs. The amplification of demand at each node of supply chain results in higher variability as we move towards the upstream supply chain. 

5)    Disorganization

When the ordering pattern is not consistent by the supply chain participants, primarily due to change in consumption pattern of consumer, a disorganized supply chain link is formed. The ordering of larger or smaller amounts results in higher variability of product demanded by upstream supply chain echelons. Hence the disorganized supply chain link leads to a bullwhip effect.

6)    Lack of communication

This hampers the smooth functioning of a supply chain link. Due to lack of communication, the information is falsely perceived and false judgments are made. This results in erroneous future demands leading to a higher variability of demand as we move from customer to supplier.

Strategies to deal with Bullwhip Effect

1)    Data transparency

In order to mitigate demand signal processing, it is important that data is made available from downstream to upstream and vice-versa. The transparency of data can be achieved using Electronic Data Interchange (EDI) and Point of Sale systems (POS) wherein upstream and downstream use the same data while forecast. This will help in eliminating shortage gaming.

2)    Vendor Managed Inventory (VMI)

A study conducted by Ruggles (2005), suggested that collaborative tool like VMI can help to reduce the impact of bullwhip in a supply chain through making information available on demand data and inventory position. This helps in eliminating order batching through structured information flow.

Example: Home Depot uses this technique with its large suppliers of manufactured goods. This technique is also used by oil companies like, Petrolsoft Corporation to manage the inventory at service stations.

3)    Collaborative planning, forecasting and replenishment (CFPR)

This model represents a strong collaboration between various nodes of supply chain management through quality information sharing. The information helps in calculated demand forecasts which helps in decelerating variance amplification and thereby reducing the bullwhip effect.

Example: This technology is applied by giant retailer Walmart wherein 100 suppliers in 2005 were using Radio Frequency Identification (RFID). This helped in sharing of information in real time position. 

4)    McCullen and Towill’s four supply chain strategies

A study conducted in 2001 by McCullen and Towill categorized the supply chain strategies into four major principles. When authors implemented this process, a drastic reduction of 36% was seen in the bullwhip effect.

a)    Control System principle

This helps in strengthening the dynamic stability of supply chain.

b)    Time Compression Principle

This helps in reduction of lead time through reducing time taken in material and information flow.

c)    Information Transparency Principle

This helps in sharing of information between various nodes of supply chain link thereby increasing transparency which helps in future decision making.

d)    Echelon Elimination Principle

This process focuses on removing echelons from the supply chain link and connecting two echelons directly without a mediator. This would reduce the amplification of demand variance.

5)    Stabilize and Simplify planning process

A stabilized and simplified planning like smoothing technique in case of seasonality of product whilst focusing on developing the communication with suppliers will reduce the impact of bullwhip effect.

References:

Lee, H. L., Padmanabhan, V., & Whang, S. (1997). The bullwhip effect in supply chains1. Sloan management review, 38(3), 93-102.

Ertek, G., & Eryılmaz, E. (2008). THE BULLWHIP EFFECT IN SUPPLY CHAIN Reflections after a Decade. Working Paper, CELS 2008.

Ruggles, K., (2005). Technology and the Service Supply Chain, Supply Chain Management Review,9(7), 12-13.

McCullen, P., & Towill, D. (2001). Achieving lean supply through agile manufacturing. Integrated Manufacturing Systems, 12(7), 524-533.