Case: Countering the Dreaded Supply Chain Bullwhip Effect in a COVID-19 World
Case Study - Countering the Dreaded Supply Chain Bullwhip Effect in a COVID-19 World
By shifting from a forecast-driven ordering system to one that enables high levels of visibility and information-sharing, companies can effectively avoid the dreaded “bullwhip effect” in their supply chains.
A distribution channel phenomenon in which inaccurate forecasts quickly turn into supply chain inefficiencies, the “bullwhip effect” refers to increasing swings in inventory in response to shifts in customer demand as one moves further up the supply chain.
With COVID-19 taking its toll on supply chains around the world, more companies will experience this detrimental impact, which was originally identified back in the 1960s and then weaved into supply chain vernacular in the 1990s.
That’s when Hau Lee of Stanford University told a story about Volvo to illustrate the bullwhip effect’s impact on the supply chain.
Suffering a glut in “green” cars at the time, Volvo’s sales and marketing developed a program to move its excess inventory.
The program helped raise interest in the cars, but Volvo’s manufacturing department was unaware of the campaign and wound up reading the increase in sales as an indication of a growing demand for green cars. In response, it ramped up production, thus adding to the glut and creating a bigger issue for the car manufacturer.
“A supply chain is a complex group of companies that move goods from raw materials suppliers to finished goods retailers,” Osmond Vitez writes in The Bullwhip Effect in Supply Chain.
“These companies work together when meeting consumer demand for a product; supply chains allow companies to focus on their specific processes to maintain maximum probability. Unfortunately, supply chains may stumble when market conditions change and consumer demand shifts.”
What Causes the Bullwhip to Snap?
According to Vitez, the bullwhip effect surfaces when changes in customer demand push organizations to order more goods to meet the new demand.
From there, the bullwhip effect flows up the supply chain - from the retailer to the distributor to the manufacturer and right through to the raw materials supplier. In many cases, the problem can be traced back to forecasting errors.
For example, when companies introduce new products, they estimate the demand for goods based on current market conditions.
“Most companies in the supply chain order more than they can sell, attempting to prevent shortages and lost sales of goods,” Vitez writes, noting that this excess inventory begins to increase or decrease during the normal market fluctuations of supply and demand.
“In the bullwhip effect, demand for items amplifies up a supply chain like the crack of a whip. Imagine a bullwhip - a tiny, swift flick at the whip’s handle results in an uncontrolled, widely snapping motion at its tip,” Amy White describes in The Causes and Impact of the Bullwhip Effect on Supply Chains.
“Similarly, a simple action such as a manager ordering products at a store can result in unpredictable effects at the top of the supply chain like a manufacturer or wholesaler.”
This variable and unpredictable demand leads to significant supply chain inefficiencies that include (but aren’t limited to), buying and storing excessive inventory, lost revenues, ineffective transportation, missed production schedules, out-of-stock products, poor customer service, and higher costs for consumers.
Addressing the COVID-19 Bullwhip
In the wake of the COVID-19 health crisis, images of empty store shelves have triggered a few things: even more panic buying, a social media frenzy of hoarder shaming, and even gang activity linked to toilet paper theft in Hong Kong.
“For many supply chain leaders, this presents the enormous and potentially costly challenge of dealing with the bullwhip effect” Jenny Reese Senior Manager, Solutions Marketing at Kinaxis
“For many supply chain leaders, this presents the enormous and potentially costly challenge of dealing with the bullwhip effect,” Jenny Reese points out in Preparing for COVID-19 and the bullwhip effect: What happens to the supply chain when you buy 100 rolls of toilet paper?
“When major swings in inventory occur from panic buying and hoarding, the impact of this sudden demand is magnified as it moves upstream in the supply chain (similar to the way a bullwhip’s thong amplifies in a wave as it moves away from the handle),” Reese writes, noting that little or no visibility into demand patterns and limited understanding of demand drivers are the primary culprits in this scenario (of course, COVID-19 came with little early warning, hence the paper goods shortage).
“How long can this boom in freight volumes last?” FreightWaves’ Daniel Pickett asks. “I have to imagine we are seeing a one-time pull of inventory as pantries, garages, and freezers are filled. Inevitably, the shelves at home will be full, and we will see a ‘demand hangover’ in grocery retail and trucking.”
Building Bridges with Partners
For companies that want to avoid or counter the bullwhip effect within their own supply chains, the answer lies in accurate, real-time demand information across the supply chain.
To achieve that, companies must shift from a forecast-driven ordering system to measures that enable information-sharing with the supply chain partners and provide complete visibility of the actual customer demand.
Using real-time inventory and shipment information, companies can effectively minimize the risk of disruption while moving more inventory at a predictable, reliable cadence.
In How to reduce the bullwhip effect, George Lawton tells companies to educate themselves on the causes of the bullwhip effect, build better trust across supply chain partnerships, consolidate supply chain data (i.e., aggregate efforts across suppliers), and gain an understanding about partner processes. “Building bridges with other supply chain partners is critical to preventing the bullwhip effect.”
A small change in downstream demand at consumer level causes significant change in upstream demand closer to manufacturer. This phenomenon in supply chain refers to bullwhip effect where a small change in consumer demand causes a big change in inventory of each participant and this change tends to become bigger and bigger as one moves upstream from inventory of finished goods to inventory of raw materials in supply chain system leading to supply chain inefficiencies1. Bullwhip effect spurs due to inadequate demand forecasting, unexpected change in demand of customers and buying patterns as experienced during COVID 19 crisis as in case of toilet paper and other commodities.
Assuming one toilet roll paper required by one person per week and counting four members in a family leading to 4 toilet roll paper per week per family is general demand of toilet roll paper universally and in case one buys 100 rolls of toilet paper due to Covid 19 pandemic which S/ he generally does not buy in normal situation will impact supply chain of toilet roll paper adversely and hinder the process of forecasting actual demand in the market thus increasing overall cost, reducing profitability, stock out and even excessive inventory and huge volatility in supply and demand of toilet roll papers. Initially it will trigger retailer to place more number of units to be ordered to its wholesaler than usual order units and in turn wholesaler will demand more number of units from distributor and this will force distributor to demand an increase in production of units from producers. 2 It will causes massive miscommunication among participants of supply chain as the demand for products increase and decrease exponentially in a short amount of time. 3 It will result in a volatile and unbalanced manufacturing environment where participants of supply chain will struggle to intelligently predict demand as a result of panic buying behavior. 4 As suppliers are fulfilling the demand of yesterday, the demand of today could be completely different from that of tomorrow. Retailers have to limit on number of units of toilet paper given to one customer at one time. The customer will face issue of stock outs in retail outlets. The retailer will lose sales and customer service will be deteriorated.5 Wholesalers and Distributors will be messed up in determining who should get how much in this shortage, and manufacturers will be unable to increase production instantly and overwhelmed with sudden and unanticipated spikes in demand.
In case people buys 100 toilet roll paper due to panic buying and situation prevails for few days demand will increase abruptly and retailers will order more quantity. Sales will go high for few days while industry will supply what it could. When retailers will give new orders to all suppliers of toilet roll papers they will recreate new demand forecasting based on past days sales. Since all retailers will be ordering at the same time, they will order more units to wholesalers and wholesalers will follow the same pattern and order more units from their distributors and distributors will be demanding more units from producers. Thus, toilet roll paper producers will also increase their orders from their raw material suppliers and increase their production. However, since toilet paper usage at home did not significantly increase during this period, sales will decrease tremendously. By this moment retailers will realize the new sales level of toilet roll papers and thus cancel or reduce their most of open orders thus inventory matching at new sell out level. Same will be done by wholesalers and distributors at their end. Manufacturers of toilet roll papers will struggle finding new buyers for their finished products once orders will be cancelled form distributors’ end. They will also have to revise their entire production schedule, MRP, headcount, etc. Producers will also cancel their surplus orders from their raw material suppliers who were also preparing for an increased demand thus creating a chaos in whole supply chain system. Thus bullwhip effect will generate huge losses to all participants of supply chain in terms of stock out , increase in holding cost, excessive inventory investment, ineffective capacity planning & production scheduling , transportation cost, poor customer services and loss in revenues. 6
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During Covid 19 outbreak, panic buying has been seen for grocery items, pharmacy and hygiene products such as sanitizers, face / surgical masks and disinfectants. In U.S., Sales of rice have been increased by 50 % and canned meat by 40 %. Sales for peanut butter, pasta, beans and bottled water have increased significantly as a result of panic buying during ongoing Covid crisis. Online purchase of cold, flu and cough products have increased by 198 % and online purchase of non perishable products such as canned goods have been increased by 69 % in US.7 This event of panic buying is unsustainable and causes scarcity in the market creating inaccessibility of necessary commodities for those who are in need.
This type of surge in demand and change in buying pattern impacted supply chain adversely and gave rise to phenomenon called bullwhip effect in supply chain system of necessity products, grocery items and pharmacies products and other commodities where stockpiling has been done by customers due to fear of stock out. The demand shocks and volatility created by COVID-19 have caused extreme bull whip effects on products taken into consideration, that resulted in an unpredictable and unstable manufacturing environment where suppliers struggle to intelligently predict demand as a result of panicked buyer behavior. Panic buying forces supply chain participants to increase demand of such products from suppliers and suppliers to increase production capacity to meet such demand which was not there before. Small changes in demand creates wider demand changes at upstream level in supply chain resulting in inability to provide products to go downstream to retailers and meet demands of customers. Bullwhip has rippled up and down supply chain of grocery, pharmacy and hygiene products whose demand has been intensified due to panic buying. Many times demand due to panic buying does not reflect actual consumption.8 For example; increase in demand of surgical mask is mix of increase in consumption and fear of stock out however demand for rice is an example of panic buying only. No one is consuming more rice so increase in demand does not reflect increase in consumption of rice. Consumption of many products remained constant but due to temporary increased demand, supply has been increased leading to surplus of such products in market and searching customers for excessive surplus products in the market by suppliers. During March and April in Singapore, eggs were missing in supermarkets and online stores but in month of June distributors had thrown away more than 250000 eggs due to oversupply. This movement from deficit to surplus is a classical example of bullwhip effect where inadequate forecast and little or no visibility of demand in a volatile market by supply chain participants led to face situation of surplus or excessive stocks and suffer such loss.9 Bullwhip effect caused supply chain disruptions of commodities taken into consideration due to panic buying and inefficiency of supply chain participants in predicting adequate demand to combat impact of bullwhip.
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Demand forecasting and sales estimation are usually done separately by participants of supply chain. When retailers notice a slight increase in demand of a certain product, they order extra units in case the small upturn in sales indicates a trend. When wholesalers receive the order from retailers and distributors from wholesalers and see an uptrend in demand, they make their own forecasts which create chaos because they are not based on real time sales figure. When producers get the orders and analyse it, perceived increase in demand becomes more exaggerated leading to bullwhip effect. In order to avoid this situation, retailers must share information on demand pattern of products to its upstream partners so that participants of upstream chain get necessary data for predicting accurate demand of products future and adjust inventory on the basis of real time demand information and thus avoid losses and counter bullwhip. Participants of supply chain must have full visibility in projected demand on real time basis so that they can secure inventory for building safety stocks. Clear picture on demand and supply of products will help supply chain system to manage demand signals more accurately and promptly, ensures faster response to customers and smoothen effects of demand variation and thus overcoming impact of bullwhip in supply chain system.10
Instead of batching orders at certain times of month or year which is less time consuming and cheaper, manufacturers should focus on receiving steady stream of orders which will reflect actual day by day demand of products. Higher administrative cost involved in this system can be reduced by shifting from manual ordering system to software based ordering system and transportation costs may be reduced by collaborating with other suppliers to consolidate loads to achieve economies of scale in shipment and transportation cost. 11 Managers should also work to understand demand patterns throughout all stages of the supply chain by sharing information and collaborating with other managers of different supply chain participants. All participants of supply chain should know what the final customer needs, and are aware of the outstanding inventory of their suppliers and customers. There must be effective communication and sharing of information between internal departments and throughout supply chain system to avoid discrepancies in inventory management, ordering and shipment. Communication with customers is utmost important to have real time information on demand of products and thus match need of customers in contingencies easily with no stock outs or inventory surplus.
References:
1. “What is Bullwhip effect” retrieved from https://ibf.org/knowledge/glossary/bullwhip-effect-42.
2. Michael Ignatiadis, Head of Supply Chain & Logistics Solutions (July 10, 2020) Too many eggs: Supply chain shocks arise from COVID-19 retrieved from https://www.jll.co.in/en/trends-and-insights/investor/too-many-eggs-covid-19-turns-focus-on-the-bullwhip-effect
3. Mike Hockett (Jul 16th, 2020) The Pandemic's Bullwhip Effect on Food & Beverage Inventory retrieved from https://www.foodmanufacturing.com/supply-chain/article/21140181/the-pandemics-bullwhip-effect-on-food-manufacturers-inventory.
4. Mahesh Rajasekharan (June 8, 2020), The COVID-19 Supply Chain Impact – Avoiding the Bullwhip Effect retrieved from https://www.sdcexec.com/sourcing-procurement/article/21134023/cleo-the-covid19-supply-chain-impact-avoiding-the-bullwhip-effect.
5. Jenny Reese (March 24, 2020) Preparing for COVID-19 and the bullwhip effect: What happens to the supply chain when you buy 100 rolls of toilet paper retrieved from Preparing for COVID-19 and the bullwhip effect: What happens to the supply chain when you buy 100 rolls of toilet paper.
6. Tiago Horvath. LATAM Supply Chain Development Manager at Nestlé Purina Latam (April 20, 2020) retrieved from https://www.linkedin.com/pulse/great-lockdown-supply-chain-bullwhip-effect-tiago-horvath/?articleId=6657742452385996800.
7. Shweta Sarma (April 2, 2020). The impact of Panic Buying on the Retail Supply Chain retrieved from https://blog.locus.sh/impact-of-panic-buying-on-the-retail-supply-chain/.
8. Sam Wood (16 March 2020). The damage panic buying does to supply chains and retailers retrieved from kent.ac.uk/news/society/24684/expert-comment-the-damage-panic-buying-does-to-supply-chains-and-retailers.
9. Michael Ignatiadis, Head of Supply Chain & Logistics Solutions (July 10, 2020) Too many eggs: Supply chain shocks arise from COVID-19 retrieved from https://www.jll.co.in/en/trends-and-insights/investor/too-many-eggs-covid-19-turns-focus-on-the-bullwhip-effect
10. TRACC (17 April 2020). Demand variability: 5 action steps to take in a time of crisis retrieved from https://traccsolution.com/blog/demand-variability/.
11. Whang and Lee (1995): Eliminating the Bullwhip Effect in Supply Chains retrieved from https://www.gsb.stanford.edu/insights/whang-lee-eliminating-bullwhip-effect-supply-chains
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