The Bullwhip Effect

The Bullwhip EffectHenry C. CoTechnology and Operations Management, California Polytechnic and State University

The BullWhip Effect2Variability increases as one moves up the supply chain

Source: Johnson & Pike, 1999

The BullWhip Effect3The Bullwhip Effect

The BullWhip Effect4The Beer GameRole-playing simulation developed in the 1960s at MITs Sloan School of ManagementProduction and distribution of beer. Players divide themselves into groups: Retailer, Wholesaler, Distributor, and Brewer. Weekly consumer demand simulated by a deck of cardsRetailer sells from his inventory and reorders from the Wholesaler, who sells from his inventory and reorders from the Distributor, who in turn sells from his inventory and reorders from the Brewer, who finally sells from his inventory and restocks from his production. Order processing delays; Shipping delaysInventory carrying costs; Stockout costs Players base their decisions strictly on the orders they receive from their respective buyers.The BullWhip Effect5During the game emotions run high. Many players report feelings of frustration and helplessness. Many blame their teammates for their problems; occasionally heated arguments break out.

In virtually all cases, the inventory levels of the retailer decline, followed in sequence by a decline in the inventory of the wholesaler, distributor, and factory. As inventory falls, players tend to increase their orders. Players soon stock out. Backlogs of unfilled orders grow. Faced with rising orders and large backlogs, players dramatically boost the orders they place with their supplier. Eventually, the factory brews and ships this huge quantity of beer, and inventory levels surge. In many cases one can observe a second cycle.John Sterman, one of the original proponents of the Beer Game The BullWhip Effect7Consequences of the Bullwhip EffectLower revenues. Stockouts and backlogs mean lost sales, as customers take their business elsewhere.Higher costs.High carrying costStockout costDistributors need to expedite orders (at higher shipping expenses)Manufactures need to adjust jobs (at higher setups and changeover expenses, higher labor expenses for overtime, perhaps even higher materials expenses for scarce components.) All entities in the supply chain must also invest heavily in outsized facilities (plants, warehouses) to handle peaks in demand, resulting in alternating under or over-utilization.The BullWhip Effect8Worse quality.Quirky, unplanned changes in production and delivery schedules disrupt and subvert control processes, begetting diverse quality problems that prove costly to rectify.Poorer service. Irregular, unpredictable production and delivery schedules also lengthen lead time, causing delay and customer dissatisfaction. Causes of Bullwhip EffectThe BullWhip Effect10Demand variability, quality problems, strikes, plant fires, etc. Variability coupled with time delays in the transmission of information up the supply chain and time delays in manufacturing and shipping goods down the supply chain create the bullwhip effect. The BullWhip Effect11Overreaction to backlogsNeglecting to order in an attempt to reduce inventoryNo communication up and down the supply chainNo coordination up and down the supply chainDelay times for information and material flowThe BullWhip Effect12Order batching - larger orders result in more variance. Order batching occurs in an effort to reduce ordering costs, to take advantage of transportation economics such as full truck load economies, and to benefit from sales incentives. Promotions often result in forward buying to benefit more from the lower prices.Shortage gaming: customers order more than they need during a period of short supply, hoping that the partial shipments they receive will be sufficient.

The BullWhip Effect13Demand forecast inaccuracies: everybody in the chain adds a certain percentage to the demand estimates. The result is no visibility of true customer demand.Free return policiesCountermeasures to the Bullwhip EffectThe BullWhip Effect15Countermeasures to order batchingCountermeasures to shortage gamingCountermeasures to fluctuating pricesCountermeasures to demand forecast inaccuracies Free return policies The BullWhip Effect16Order BatchingHigh order cost is countered with Electronic Data Interchange (EDI) and computer aided ordering (CAO). Full truck load economics are countered with third-party logistics and assorted truckloads. Random or correlated ordering is countered with regular delivery appointments. More frequent ordering results in smaller orders and smaller variance. However, when an entity orders more often, it will not see a reduction in its own demand variance - the reduction is seen by the upstream entities. Also, when an entity orders more frequently, its required safety stock may increase or decrease; see the standard loss function in the Inventory Management section. The BullWhip Effect17Shortage GamingProportional rationing schemes are countered by allocating units based on past sales. Ignorance of supply chain conditions can be addressed by sharing capacity and supply information. Unrestricted ordering capability can be addressed by reducing the order size flexibility and implementing capacity reservations. For example, one can reserve a fixed quantity for a given year and specify the quantity of each order shortly before it is needed, as long as the sum of the order quantities equals to the reserved quantity. The BullWhip Effect18Fluctuating PricesHigh-low pricing can be replaced with every day low prices (EDLP). Special purchase contracts can be implemented in order to specify ordering at regular intervals to better synchronize delivery and purchase.The BullWhip Effect19Demand Forecast InaccuraciesLack of demand visibility can be addressed by providing access to point of sale (POS) data. Changes in pricing and trade promotions and channel initiatives, such as vendor managed inventory (VMI), coordinated forecasting and replenishment (CFAR), and continuous replenishment can significantly reduce demand variance. The BullWhip Effect20Free Return PoliciesFree return policies are not addressed easily. Often, such policies simply must be prohibited or limited.

Vendor Managed InventoryThe BullWhip Effect22Popularized in the late 1980s by Wal-Mart and Procter & Gamble, VMI became one of the key programs in the grocery industrys pursuit of efficient consumer response and the garment industrys quick response.Successful VMI initiatives have been trumpeted by other companies in the United States, including Campbell Soup and Johnson & Johnson, and by European firms like Barilla (the pasta manufacturer).The BullWhip Effect23The supplierusually the manufacturer but sometimes a reseller or distributormakes the main inventory replenishment decisions for the consuming organization.The supplier monitors the buyers inventory levels (physically or via electronic messaging) and makes periodic resupply decisions regarding order quantities, shipping, and timing. Transactions customarily initiated by the buyer (like purchase orders) are initiated by the supplier instead.The purchase order acknowledgment from the supplier may be the first indication that a transaction is taking place; an advance shipping notice informs the buyer of materials in transit. The VMI PartnershipThe BullWhip Effect24

The manufacturer is responsible for both its own inventory and the inventory stored at is customers distribution centers.