The Bullwhip Effect

Bullwhip effect or sometimes also called the whiplash effect is a very common problem in the supply chain management which directly influences Operations Management and Demand Forecasting.

Bullwhip effect is the phenomenon in which at every stage of the supply chain, moving from end customer to the manufacturer, the amount of product stock stored in the warehouse increases and a slight change in demand at customer end gets magnified exponentially as it moves up the supply chain. Below image illustrates the complete supply chains reaction when a slight change in customer demand creates a huge change in manufacturer’s forecast.

Bullwhip effect from end customer to manufacturer

Let’s take an example to understand the bullwhip effect

Suppose you, as an end customer goes to a retail store near your house to by a packet of detergent. Now as an end customer you may buy one pack, but to fulfill the demand of customers like you, store has to keep a stock of around 1000 packs. Similarly, the retail store will order stock from a wholesaler who may have to keep a stock of 50000 packs and similarly as we keep going up the supply chain ultimately the manufacturer may have to keep an inventory of more than 5000000 packs readily available to be shipped. Now suppose you decided to two packs instead of buying one pack. This will create a spike in the demand from the end customer and this demand gets magnified at every stage of the supply chain and by the time it reaches manufacturer the demand spike is so huge that the manufacturer may end up producing more than the actual demand required by the end customer. This creates a problem as the manufacturer does not have a clear visibility of the end customer demand and cannot forecast how much production is required to meet the demand without over filling the warehouses. Due to this planning as well as the operations management for the manufacturing becomes really difficult.

This will definitely reduce profit margins at least if not incur losses for non perishable products but, just replace detergent in the above example with fruit juice boxes, now at each level of the supply chain you cannot hold a huge stock of the product, as now we have a smaller time window between manufacturing and consumption by the end customer. Suddenly this magnifies the problem and optimization now becomes really critical for the manufacturer.

The major causes for this effect can be categorized into three major categories

1. Bad supply chain structure
2. Lack of customer information
3. Lack of optimization at each stage of supply chain.

These categories leads us to the solution of this problem as well, we can minimize the Bullwhip effect by using the below techniques

1. If the manufacturer has a clear view of the customer demand, then they can optimize the inventory planning by forecasting the demand consumption.

This can be achieved or has been achieved by many manufacturers by a concept called Vendor Managed Inventory (VMI). According to this the inventory of the retail stores will be managed by the manufacturers directly so they have a clear view of rate of consumption of the product by the end customer. Achieving this has become fairly easy due to Computer Aided Ordering systems through which data exchange has now become very efficient.
Some big names like Walmart and Bosch have successfully adapted Vendor managed Inventory to minimize the bullwhip effect in their supply chain.

2. Simplify ordering patterns

This will happen when there are no irregularities between the ordering patterns from the customers. So the forecasting for future orders becomes more accurate. This can be implemented by having contracts with the retail vendors.