When companies at the end of a supply chain make changes in their orders, whether they add or reduce them, these changes are said to be progressively amplified for operations as they move back through the supply chain. The changes create some sort of a ripple effect throughout the length of the supply chain moving back from where those production decision changes have been made.
Bullwhip effect was the description coined by Procter and Gamble management when they noticed an amplification of information distortion as order information was relayed back up the supply chain (Buchmeister, et al, 2008). It is also called the whiplash effect, describing the observed pattern in forecast distribution where a slight change ripples backward similar to the flick of a bullwhip handle (Buchmeister, et al, 2008).
Companies make production forecasts because consumer demand is often unstable and businesses need to position inventory and other resources in anticipation of demand. The variations in demand and the time delay in transmitting the information up the supply chain and time delay in producing and shipping the goods along the supply chain make the bullwhip effect possible (Buchmeister, et al, 2008).
Also, because of forecast errors, each company in the supply chain carries an inventory buffer called a safety stock. As the process moves up the supply chain from end-consumer to the supplier, each supply participant observes greater variation in demand and therefore carries a higher safety stock. When there is increased demand, orders from downstream participants also increase; when the demand is falling, orders are reduced or even stopped in order to lower inventory. The effect is that variations are amplified as the business process moves upstream in the supply chain, away from the customer. Bullwhip effect is explained by the structure of ownership of the different stages in the supply chain. As each stage in that supply chain structure seeks to make the best profit from the particular production stage, it reduces overall profitability for the entire supply chain (Buchmeister, et al, 2008).
Information distortions channeled through the supply chain as a result of demand-driven production modifications produce great inefficiencies along the supply chain. These include excessive inventory investment, poor customer service, missed production schedules and lost revenues (Lee, et al, 1997). These inefficiencies eat up the margins at all stages in the supply chain, leading to reduced profitability.
References
Aeppel, Timothy. (27 January 2010). 'Bullwhip' Hits Firms as Growth Snaps Back. The Wall Street Journal. Retrieved from http://online.wsj.com/article/SB10001424052748704509704575019392199662672.html.
Buchmeister, B., Pavlinjek, J., Palcic, I. and Polajnar, A. (2008). Bullwhip Effect in Supply Chains. Advances in Production Engineering Management Journal, Volume 3. Retrieved from http://maja.uni-mb.si/files/apem/APEM3-1_045-055.pdf.
Lee, Hau L., Padmanabhan, V. and Wang, Seungjin. (15 April 1997). The Bullwhip Effect in Supply Chains. MIT Sloan Management Review. Retrieved from http://sloanreview.mit.edu/the-magazine/1997-spring/3837/the-bullwhip-effect-in-supply-chains/.
Mangelsdorf, Martha E. (1 January 2010). Understanding the ‘Bullwhip’ Effect in Supply Chains. MIT Sloan Management Review. Retrieved from http://sloanreview.mit.edu/improvisations/2010/01/27/understanding-the-bullwhip-effect-in-supply-chains/#.USAp56VBP50.
