Bullwhip effect

What is the bullwhip effect, which is sometimes referred to as “demand amplifier”, or “the whiplash effect”? Why do I need to understand this phenomenon for my efficient supply chain planning and smooth retail business running?

Everyone knows that accurate supply and demand forecasting is the core of any retail business. If not properly calculated, you may end up with empty shelves, disappointed customers, lost sales, or on the contrary, you can tie up your money in overstocks, costly wasted and unsold products.

Understanding and taming the bullwhip effect is important for supply and demand planning. If retailers and other supply chain members can’t control the bullwhip fluctuations and if they do not understand its nature, it may distort supply chain orders proportions, creating mismatch and leading to inefficiency.

Bullwhip effect in supply chains

So, what is the bullwhip effect?

Let’s have a deeper look at this effect, first discovered by a Massachusetts University scientist Jay Forrester.

To illustrate the bullwhip, let’s imagine a small village shop selling groceries.

Example:

A small retailer sells milk - he perfectly knows the demand of his customers and he keeps 20 bottles of milk in his store warehouse to keep his customers satisfied and his sales level sustainable. Customer demand fluctuations are more or less stable and predictable. Every day he orders milk from a local farmer, and a local farmer orders raw materials, bottles etc. from a wholesale supplier.

If the demand of end customers is moving up or down, both farmer and wholesaler shall react, and surprisingly enough, they will experience greater(!) demand fluctuations within their supply chain areas than a grocery retailer.

This is a very simplified example of the bullwhip effect within a three-party supply chain model.

Large conglomerates and corporations may experience even more amplified fluctuations within their supply chains as they move up - from retailers to wholesalers, from wholesalers to distributors, and from distributors to producers. Usually there are six to seven supply chain members between end customers and raw materials producers.

Even the smallest increase or decrease in end consumer demand can literally cause a sweeping “wave” while moving up the supply chain. Producers of raw materials often are faced with the most dramatic and exaggerated demand and order fluctuations.

Such “waves” may distort normal supply chain functioning.

What are the reasons behind the bullwhip?

   ➥ Inventory management strategy

First of all, it is inventory management strategy applied and shared by each supply chain member that can lead to the bullwhip. For example, a grocery retailer may run a promotion or start target advertising, launch a delivery or offline sales - consequently, he will order more quantities of product within a shorter period of time. Discounts, last calls and other price variables very often distort regular order quantities creating demand surges.

   ➥ Miscommunication and delays

Second, various delays, for instance, shipping or transportation schedule irregularities, or manufacturing force-majeur may directly influence the amplitude of a bullwhip. That is why real-life trustable communication between all supply chain members is so important.

   ➥ Human factor

Third, the so-called human factor which can lead to demand planning uncertainties or ordering disbalance. Managers, who forecast demand and perform manual reorder calculations, can make errors in planning or fail to properly forecast demand. By the way, this is a reason we recommend switching to an automated inventory management and demand planning technologies. Retailers and procurement managers can rely on their intuition when making orders and predicting demand, which causes irregularities and order distortions.

How to combat the bullwhip?

Knowledge is power. If retailers are familiar with a bullwhip phenomenon and they understand the reasons behind demand fluctuations within their supply chains, they can better concentrate on demand forecasting and plan the orders more accurately and efficiently.

Say no to manual and/or intuitive demand forecasting. Modern intelligent inventory management solutions and technologies can analyze terra-bytes of information per second and make accurate demand calculations on the basis of real-time sales data across all sales channels and locations. The more accurate demand forecast you have, the less errors you have and you have more chances to tame a bullwhip you have. With an intelligent demand planning the decisions you make are more rational and well-balanced, consequently, your supply chain is more controllable and consistent.

Synchronize your supply chain. First of all, ensure that all members of your supply chain are reliable professionals and establish smooth communication between them. Be sure to use modern cloud-based inventory management systems which can transfer information immediately and can be accessible online from every physical location.

Do not rely on promotions and discounts. These activities are helpful, but they can distort greatly your demand planning and contribute to a bullwhip effect, so be sure to use them rationally and stick to more streamlined regular demand. Instead of investing too much into promotions, invest into smart accounting and inventory management systems.

Optimize your ordering quantities and frequencies. Keep your MOQ (minimal order quantities) rational and flat, and place orders more frequently. If you are using intelligent inventory management software, the system will automatically calculate the best order quantity and frequency for your business.

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