Let’s run through a hypothetical scenario you may be all too familiar with: a retailer typically sells 50 units of a product. One day, sales skyrocket and that business racks up 100 sales of that item. Interpreting this as the start of a new trend, the owner orders 200 extra units. The manufacturer notices this uptick and, correspondingly, prepares 400 extra units to stay ahead of the curve. Anticipating a new craze, the businesses responsible for collecting the raw materials to make the product are asked to fulfill massive orders to meet customer demand — orders they can’t fulfill on time.
Then it turns out that the uptick in sales was a fluke. It wasn’t the start of a new trend.
This chain reaction, known as “the bullwhip effect,” can cause serious damage. If you’ve dealt with supply chain operations, you’ve probably heard of, or even felt the consequences of, the bullwhip effect. It can lead to a failure to deliver on consumer demand, including backorders, and may result in very unhappy customers. This effect can also lead to warehouses clogged with unwanted excess inventory.
But what is the bullwhip effect, exactly? And how can it have such varied and chaotic results? Today, you’ll learn the basics of this phenomenon, as well as what you can do to avoid it.
Defining the bullwhip effect
The bullwhip effect refers to the shortages and overages businesses face due to the inaccurate assessment of consumer demand based on fear. When raw material and component providers experience extreme demand spikes or shifts, you’re seeing the bullwhip effect in action. But why does this happen?
In supply chain management, consumers wield a figurative “bullwhip” made up of each layer of the supply chain. When trends affect purchasing decisions and their demands shift, they snap the whip, affecting each organization involved. Retailers, manufacturers, component creators, and raw material companies must adjust to meet these new demands.
Most businesses will have some margin of error when it comes to assessing new levels of customer demand, particularly when the shift is dramatic. Out of fear, they may overcorrect. Each organization down the supply chain can be influenced to do the same, multiplying the problem. Perceived consumer demand can be drastically different at the end of the whip than what reality reflects. This can lead to those further down the supply chain being unable to truly meet consumer demand.
The exponential growth of these ripples in the supply chain affect those at the end the most: raw material providers. Just as a bullwhip zigzags when it is snapped, those at the end of the whip see the greatest level of variance. This makes the struggle to get necessary components or raw materials downright chaotic at times.
The causes and risks of the bullwhip effect
Why do supply chain providers sometimes react this way? In addition to managing many moving pieces, individual organizations in the supply chain have an influence on each other. When one misses the mark, it’s probable that at least a few others will follow suit. This is why supply chain management can be so difficult. There are many factors at play:
- Businesses may have insufficient consumer demand information or current trends. This can result in inaccurate forecasting or rash decisions made out of fear.
- Lead time — the time it takes for goods to be manufactured and distributed — can sometimes exceed the window of opportunity for consumer trends. This can result in a failure to make sales during trending periods and an overstock of now-unwanted goods or excess inventory (as evidenced by the bargain bins full of fidget spinners across the U.S.).
- Some organizations in the supply chain may have a large order batching. They may also use automatic ordering, which can be unwise for items with high demand variance. Both of these practices can make the supply chain inflexible, leading to guaranteed peaks and valleys in available materials.
- Discounts can cause those in the supply chain to order too much product, especially when consumer trends appear to be shifting.
These are just a few examples that can lead to the failure of an entire supply chain to accurately meet consumer demand.
The bullwhip effect can lead to a lot of frustration for every organization involved. It can mean unreliable inventories, a sharp increase in backorders, increased costs for storing and managing product, and, worst of all, frustrated customers.
How to mitigate the bullwhip effect
What can you do to prevent these negative outcomes? Here are some tips to stay flexible regarding changes to demand.
Streamline your supply chain whenever possible
Shorten that bullwhip! Greater communication, finding closer suppliers, reducing the number of steps in production, using a strong inventory management system — each of these steps can decrease the chances of supply chain disruption and the amount of lead time needed to get goods into consumers’ hands. Do what you can to streamline your supply chain. You will be rewarded with greater flexibility, allowing you to deftly respond to shifts in demand while negating the bullwhip effect.
Maintain a buffer of inventory
While there are costs associated with carrying product, it’s wise to keep a buffer of inventory or safety stock when it comes to goods with high variance in demand, especially if wastage isn’t a serious concern with that item. If demand rockets upward, you’ll be prepared to handle it with your safety stock in hand while waiting for additional stock to come in.
Limit sales during shortages
This may sound counterintuitive, but limiting sales of high-demand goods can ease consumer frustration. Prohibiting individuals from buying too much of a product can let other customers get their hands on it, reducing overall dissatisfaction. This also prevents issues arising from hoarding and scalping.
More orders, more often
If you don’t want to suffer from the bullwhip effect, you should generally avoid ordering large batches of goods. When consumer demand changes, you need to be able to adjust your stock or inventory levels quickly. This can be accomplished by ordering small batches more frequently. The costs of overcorrecting are much less severe if you’re only off by a small percentage in one or two orders. Using a reorder point calculator can help you determine exactly when you should order to avoid excessive lead time.
Stay informed
Don’t respond in fear to the snap of the whip of changing trends. Stay apprised of trends, as well as your inventory. By taking advantage of the latest advancements in inventory management, and continually collecting data to make updated inferences about your target audience, you can stay ahead of the competition.
Further, if you can’t quickly gauge your stock or inventory levels, you can’t respond to market changes effectively. Making improvements to your inventory management system is key to staying competitive. Investing in an inventory management solution can reduce your likelihood of experiencing the bullwhip effect.