Discover the impact of the bullwhip effect on supply chains. Learn why it happens and discover strategies to mitigate this phenomenon.
The bullwhip effect is a supply chain phenomenon that describes how small fluctuations in demand from the retailer can cause progressively larger fluctuations in demand at the wholesale, distributor, manufacturer, and raw material supplier levels.
Regardless of industry, this phenomenon is inevitable due to unpredictable consumer demand, emphasizing the crucial need for accurate planning and forecasting to prevent stock-outs or excess inventory.
In this article, we explore:
1 What is the bullwhip effect?
Bluecart, the leader in hospitality technology, says, “Jay Forrester is credited as the person who invented the term “bullwhip effect.” Forrester was a leading American computer engineer and systems analyst who was well-known for his invention of magnetic core computer memory. He became an MIT lecturer in 1-6 and began presenting his concepts on supply chain management in 1961. Forrester started calling supply chain demand fluctuations the bullwhip effect and has been credited with it ever since.”
The bullwhip effect occurs when demand changes at the retail level lead to larger inventory fluctuations at the wholesale, manufacturer, distributor, and supplier levels.
A prime and often used example is the car manufacturer, Volvo, when they found themselves with surplus green cars in their inventory. They ran a special offer to get them off the dealers’ floors, and the green cars started selling. Unaware of the sales promotion, manufacturing saw an increase in sales and ramped up production for more green cars. As a result, Volvo was left with a large inventory of unsold green vehicles at the end of the year.
These supply chain fluctuations start small at the retail level and amplify further up the supply chain. When cracking a bullwhip, the whip’s handle moves 60 degrees, yet the tip of the whip moves at 360-degrees, so the term bullwhip effect is appropriate. The impact at the retail level is low and escalates further up the supply chain, with the manufacturer suffering the most. The bullwhip effect refers to the fluctuating swings in response to the customer’s demands, which has a cascading impact on the supply chain.
2 What are the causes of the bullwhip effect?
Each area of the supply chain has its forecasts adjusted accordingly to cover the increase in demand from customers. Retailers and distributors adjust their forecasts to plan for contingencies and to take advantage of bulk buying prices. Manufacturers don’t have the insight available to see customer sales information at the retail level to make informed production forecasting decisions.
There are some typical causes of the bullwhip effect in the supply chain:
- Price fluctuations: Price fluctuations can occur in the holiday and festival periods when the retailer offers discounts or promotions. These discounts influence the buyer’s journey and patterns, and an increase in demand may occur.
- Order batches: The retailer places orders with their supplier once per month, which causes inconsistent demand for suppliers over time. A tip here is to place frequent, smaller orders rather than placing a large order at once, so distortion in the supply chain doesn’t occur.
- Incorrect demand forecasting: Demand forecasting is a complicated process, so having full visibility of your inventory and setting and refining your inventory KPIs can avoid errors and inaccurate demand forecasts over time.
- Free return policies: Many companies have a free return policy in place. This causes suppliers to overstate demand due to shortages, order more items, and later return them to the manufacturer “free-of-charge.” This is a continuous cycle that disrupts the supply chain.
- Extended lead times: Lead time is the period of time from when an order is placed and when it is received. If lead time is not taken into account, excess stock may occur, resulting in supplier demand changes.
- Poor communication between role players in the supply chain: Many role players (manufacturers, suppliers, retailers, customers) are associated with the supply chain. The supply chain can’t function properly if there is poor or no communication across the supply chain. Proper communication between stakeholders and suppliers means increased productivity, meeting customer demand and expectations and accurate forecasting across the supply chain.
3 The impact of the bullwhip effect on the supply chain
The bullwhip effect impacts the supply chain on many levels as the businesses impacted incur more costs.
Let’s examine how certain industries have been affected by the impact of the bullwhip effect.
Automotive and car parts: the bullwhip effect manifests through fluctuating consumer demands, leading to challenges in managing production and inventory. Sudden shifts in market demand can create disruptions in the supply chain, impacting manufacturers, suppliers, and distributors. Strategic inventory management and efficient communication among stakeholders are critical for mitigating the bullwhip effect in this sector.
We were facing an issue with a worldwide lack of supplies and semiconductors. There’s a high demand for vehicles, but only a few can be produced.
Retail: the unpredictability of consumer preferences and external factors like promotions or seasonality can cause inventory imbalances. Retailers need robust inventory planning, streamlined communication with suppliers, and flexible order management systems to navigate and minimize the impact of the bullwhip effect.
The Wall Street Journal states, “The household staple was a “canary in the coal mine” of sorts in the early days of the pandemic, disappearing from stores and serving as a harbinger of shortages across a range of goods. As a rush on store shelves took hold, toilet paper makers converted supply-chain capacity from away-from-home product lines (used in schools, hotels, workplaces, restaurants and so on) to home-use products to meet heightened demand, only to find purchasing of products tailored for home use waning as the industrial-use market recovered.”
Pharmaceutical: the bullwhip effect can disrupt the supply chain for crucial medications. Shifts in demand, especially during health crises, can strain the production and distribution of pharmaceuticals. To counter this, pharmaceutical businesses need robust forecasting, agile production capabilities, and collaborative relationships with suppliers and distributors to ensure a steady and responsive supply chain, particularly during times of increased demand.
For example, the UK was experiencing a shortage of manufacturing ingredients for the COVID-19 vaccine due to the rise in demand for the AstraZeneca vaccination. Suppliers were struggling to keep up with demand and experience stock-outs.
Shipping: Fluctuations in orders can lead to inefficient use of transportation resources and increased costs. To address this, optimizing logistics, improving communication between manufacturers and logistics providers, and implementing agile supply chain strategies are crucial for mitigating the bullwhip effect in shipping.
4 Strategies to mitigate the bullwhip effect
There is no secret recipe to keep the bullwhip effect in check, but there are some strategies your business can follow to mitigate the effects of the bullwhip. It’s essential to have the right tools in place to give you overall visibility of your inventory and keep the bullwhip effect from further disrupting the supply chain.
One of the many solutions for manufacturers to consider is implementing a vendor-managed inventory system in the supply chain. Manufacturers will have full visibility and control, and with the advent of IoT, it is even easier to automate and track inventory levels in-store using Radio Frequency Identification (RFID) technology. Tagging items with RFID tags allows users to automatically and uniquely identify and track inventory and assets. Manufacturers will be able to assume the responsibility for maintaining inventory by having access to up-to-date information and can plan their purchase of raw materials and production schedules accordingly. By being closer to the source of the demand, manufacturers also ensure better communication throughout the supply chain.
10 Tips to mitigate the impact of the bullwhip effect in your supply chain:
- Acknowledge and grasp the dynamics of the bullwhip effect:
Understand how demand fluctuations impact different levels of your supply chain, creating a ripple effect - Enhance the inventory planning and policy formulation process:
Implement data-driven strategies to optimize inventory levels, considering factors like lead times, seasonality, and demand variability - Foster improved communication among teams and managers:
Encourage regular communication to ensure all teams are aligned, share insights, and collectively work towards a more responsive supply chain - Optimize minimum order quantities (MOQ) and inventory levels:
Fine-tune your MOQs and inventory to strike a balance between cost-effectiveness and meeting customer demands - Effectively manage orders, returns, and adapt supplier and inventory policies:
Develop flexible policies that can adapt to changing demands, and efficiently manage orders and returns to minimize disruptions - Establish controls and consistency in the sales process:
Implement robust controls to ensure consistency in the sales forecasting and order processing, minimizing unnecessary fluctuations - Conduct regular audits, strengthen relationships with suppliers, and understand them better:
Regularly assess your supply chain processes, build strong relationships with suppliers, and understand their capabilities and limitations - Expedite onboarding of new suppliers:
Streamline the onboarding process for new suppliers to enhance flexibility and diversify your supply chain network - Facilitate open discussions and information sharing on actual demand across all stakeholders:
Foster a culture of openness and collaboration to share real-time demand information among all stakeholders, promoting better decision-making - Ensure alignment between procurement and logistics teams:
Coordinate efforts between procurement and logistics teams to enhance efficiency, reduce lead times, and respond swiftly to changes in demand
It’s crucial to measure your supplier’s performance and have a forecast that can adapt to fluctuations in demand. With Netstock, you gain complete inventory visibilit to quickly adapt to changes and make better planning decisions in your supply chain.
