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Bullwhip Effect

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BUULLWHIP EFFECT

BACKGROUND
The bullwhip effect occurs when the demand is amplified in the supply chain as they move up in the channels of the supply chain of a firm. Distorted information from one end of a supply chain to the other can lead to tremendous inefficiencies. Companies can effectively counteract the bullwhip effect by thoroughly understanding its underlying causes.
Procter & Gamble (P&G) introduce this term. Logistics executives at Procter & Gamble (P&G) examined the order patterns for one of their best-selling products, Pampers. Its sales at retail stores were fluctuating, but the variabilities were certainly not excessive. However, as they examined the distributors' orders, the executives were surprised by the degree of variability. When they looked at P&G's orders of materials to their suppliers, they discovered that the swings were even greater. At first glance, the variability did not make sense. While the consumers, in this case, the babies, consumed diapers at a steady rate, the demand order variability in the supply chain were amplified as they moved up the supply chain. P&G called this phenomenon the "bullwhip" effect. (In some industries, it is known as the "whiplash" or the "whipsaw" effect.)
Causes of the Bullwhip Effect
Researchers found out that the factors which cause the bullwhip effect are the demand forecasting and amplification of oeders to the upper level of the supply chain. The best illustration of the bullwhip effect is the well known "beer game." In the game, participants (students, managers, analysts, and so on) play the roles of customers, retailers, wholesalers, and suppliers of a popular brand of beer. The participants cannot communicate with each other and must make order decisions based only on orders from the next downstream player. The ordering patterns share a common, recurring theme: the variabilities of an upstream site are always greater than those of the downstream site, a simple, yet powerful illustration of the bullwhip effect. This amplified order variability may be attributed to the players' irrational decision making. Indeed, Sterman's experiments showed that human behavior, such as misconceptions about inventory and demand information, may cause the bullwhip effect. [1]
In contrast, the bullwhip effect is a consequence of the players' rational behavior within the supply chain's infrastructure. This important distinction implies that companies wanting to control the bullwhip effect have to focus on modifying the supply chain's infrastructure and related processes. Research has identified four major causes of the bullwhip effect:
Demand Forecasting Update
Every company in a supply chain usually does product forecasting for its production scheduling, capacity planning, inventory control, and material requirements planning. Forecasting is often based on the order history from the company's immediate customers. But sometimes the lead time can cause bullwhip effect no matter the forecasted demand is accurate or not.
Order batching
In a supply chain, each company places orders with an upstream organization using some inventory monitoring or control. Demands come in, reduce inventory, but the company may not immediately place an order with its supplier. It often batches or accumulates demands before issuing an order so instead of ordering frequently, companies may order weekly, biweekly, or even monthly. What happens is that there is a spike in demand at one time during the month, followed by no demands for the rest of the month. So this variability is higher than the demands the company itself faces. Periodic ordering amplifies variability and contributes to the bullwhip effect.
Price Fluctuation
Estimates indicate that 80 percent of the transactions between manufacturers and distributors in the grocery industry were made in a "forward buy" arrangement in which items were bought in advance of requirements, usually because of a manufacturer's attractive price offer. [2]
Forward buying results from price fluctuations in the marketplace. Manufacturers and distributors periodically have special promotions like price discounts, quantity discounts, coupons, rebates, and so on. All these promotions result in price fluctuations. Additionally, manufacturers offer trade deals (e.g., special discounts, price terms, and payment terms) to the distributors and wholesalers, which are an indirect form of price discounts. The result is that customers buy in quantities that do not reflect their immediate needs; they buy in bigger quantities and stock up for the future. [3]
Rationing and Shortage
When product demand exceeds supply, a manufacturer often rations its product to customers. In one scheme, the manufacturer allocates the amount in proportion to the amount ordered. For example, if the total supply is only 50 percent of the total demand, all customers receive 50 percent of what they order. Knowing that the manufacturer will ration when the product is in short supply, customers exaggerate their real needs when they order. Later, when demand cools, orders will suddenly disappear and cancellations pour in. This seeming overreaction by customers anticipating shortages results when organizations and individuals make sound, rational economic decisions and "game" the potential rationing. [4]

FUTURE TREND
Understanding the causes of the bullwhip effect can help managers find strategies to lessen it. Indeed, many companies have begun to implement innovative programs that partially address the effect. Firms are looking forward to reducing the bullwhip effect.
With the timely transmission of information sharing, demand information from downstream sites to upstream can reduce the bullwhip effects. Operational efficiency refers to activities that improve performance, such as reduced costs and lead-time. Firm are working on the ways to bring the bullwhip effect to minimum. They are trying to determine the root cause of the bullwhip effect and working on the possibility to minimize it. Ordinarily, every member of a supply chain conducts some sort of forecasting in connection with its planning (e.g., the manufacturer does the production planning, the wholesaler, the logistics planning, and so on). Bullwhip effects are created when supply chain members process the demand input from their immediate downstream member in producing their own forecasts. Demand input from the immediate downstream member, of course, results from that member's forecasting, with input from its own downstream member. Supply chain partners can use Electronic Data Interchange (EDI) to communicate with each other. The increasing use of EDI is certainly facilitating information transmission and sharing among chain members and helping to reduce the bullwhip effect.

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