Ecommerce retailers are constantly looking for ways to meet customer demand while reducing costs throughout the supply chain. One of the best ways to do this is with proper demand planning.
But forecasting demand isn’t always easy. When done improperly, it can result in a phenomenon known as the “bullwhip effect,” which can have a negative impact on the ecommerce supply chain.
In this article, you will learn what the bullwhip effect entails, how it impacts the supply chain, and what causes it, plus solutions on how to prevent, or at least soften, the bullwhip effect.
What is the bullwhip effect?
The bullwhip effect is a supply chain phenomenon in which changes in consumer demand result in inventory fluctuations throughout the rest of the supply chain.
For example, if a retailer significantly increases their inventory replenishment based on a temporary spike in demand, it could result in unsold inventory that sits in their warehouse, picking up dust and racking up inventory holding costs.
Similarly, when there’s a slight variation in consumer demand, it can reverberate up the supply chain and result in significant discrepancies.
The term ‘bullwhip effect’ was coined based on the physics of cracking a whip, where a small snap of the wrist causes wave patterns that amplify to release a strong force.
Real-world examples of the bullwhip effect
One of the most recent and significant real-world examples of the bullwhip effect could be seen during the COVID-19 pandemic, especially with toilet paper. In March 2020, toilet paper demand went up a staggering 700%.
As panic-buying resulted in supply shortages, stores were scrambling to increase their orders and keep their shelves stocked.
Further up in the supply chain, manufacturers were also increasing production to meet this excessive spike in demand. However, the toilet paper shortage was only temporary, and the demand fell again, with sales dropping 33% by the next year, which subsequently resulted in a bullwhip effect.
The bullwhip effect often occurs when businesses have limited supply chain visibility. Take an old case study of Hewlett-Packard (HP), for example. HP once solely relied on reseller orders to make demand forecasts, plan their capacity, and schedule their production.
As a result, the brand’s production division experienced significant fluctuations in demand, exaggerated by the resellers’ sales performance.
Thankfully, businesses have more visibility into their supply chain than ever before. But it’s not uncommon for ecommerce businesses to still feel the impact from the bullwhip effect.
How the bullwhip effect impacts the supply chain
It’s clear that the bullwhip effect can have an impact on the supply chain, but how exactly?
Here is an overview of the areas of the supply chain that can be impacted the most from the bullwhip effect.
Increased storage costs
The bullwhip effect often leads to an increase in production, which means an increase in inventory. The longer inventory goes unsold, the more likely you are to have to deal with the effects of overstocking.
This can get costly as you have to pay for the physical storage space and the other costs associated with inventory storage. The cost is particularly high as the inventory may no longer yield returns since the demand has dropped.
Increased labor costs
Overstocking often requires a larger workforce to manage an overloaded warehouse. There are costs associated with handling, sorting, and selling the excess inventory you have on hand.
Alternatively, you could also see increased labor demands if you run out of stock since your employees may need to work harder to arrange alternatives and solutions.
Unmet customer demand
The bullwhip effect can result in inaccurate demand forecasting, which can lead to businesses being unable to consistently meet demand.
Running out of stock not only results in missing sales opportunities, but it also leads to lower customer satisfaction. Stockouts and backorders can get costly in the long run as well.
Product spoilage and obsolescence
Excess inventory is at risk of expiring or becoming obsolete, resulting in costly waste. Food items or personal care products can expire, apparel can go “out of fashion,” and electronics can become outdated and undesirable.
Excess inventory that is no longer sellable becomes “dead stock,” which can chip away at profit if it sticks around for too long.
5 common causes of the bullwhip effect
Minor changes in demand may be the usual cause of the bullwhip effect, but there are other common reasons why the bullwhip effect can occur.
1. Complex supply chain
Supply chains involving many touchpoints and players tend to get complex.
Adding a sales channel, more SKUs, and even operating out of multiple warehouses (without the right technology to manage a network) can make the supply chain more complex unless there’s visibility across the board.
A small shift in consumer demand or more varied orders can also cause complexity, creating more opportunities for the bullwhip effect to occur.
When there’s miscommunication between different supply chain members, it can create misunderstandings and misalignments across the board.
The bullwhip effect can arise when different parties associated with one supply chain fail to share information about production issues, demand shifts, transportation delays, or other important aspects of the supply chain.
That’s why it’s important to build a third-party network you trust. This might include one or more manufacturers or suppliers, as well as a logistics partner that will communicate with you in a timely fashion when changes or disruptions occur.
3. Consumer demand
As mentioned earlier, consumer demand can not only create a more complex supply chain, but it can also cause the bullwhip effect.
Unexpected changes in consumer demand based on seasonality, emerging trends, and other external factors can all make it difficult to accurately forecast and replenish inventory.
4. Long lead times
When there is a delay or change in product lead times, it can prevent sellers from adequately meeting customer demand, thus resulting in the bullwhip effect.
While there are ways to calculate average production lead times, there are several factors that can cause longer lead times than normal, from changes in a manufacturer’s SLA, to a shortage in raw materials to produce finished goods.
5. Price fluctuations
Discounts, sales, inflation, and other promotional efforts tend to disrupt customer demand trends, which may lead to inaccurate inventory forecasting.
As suppliers become more accustomed to high order volumes, it can get problematic once sellers end their sales or promotions, or raise prices to combat inflation.
5 best ways to soften the bullwhip effect
Identifying the biggest causes of the bullwhip effect can help you understand how to mitigate the impact.
Here are some of the best practices to soften the bullwhip effect and prevent small issues from snowballing into larger problems throughout the supply chain.
1. Improve supply chain visibility
When there’s proper visibility throughout the supply chain, it allows for better preparation to meet demand, despite delays, demand changes, or other issues to arise.
For example, with the right technology in place to track real-time inventory, a sudden spike in sales can be forecasted or seen early on, so the right amount of inventory can reordered on time. To increase supply chain visibility, technology is crucial.
“We utilize ShipBob’s Inventory API, which allows us to programmatically retrieve real-time data on how many units of each product are currently stored at ShipBob’s warehouses. We currently use this API to generate custom reports to tie this inventory data into our accounting platforms.”Waveform Lighting Team
Though there are robust softwares like an ERP inventory system that can be implemented, a business can easily implement a cost-effective inventory management software that provides real-time stock counts across locations and sales channels to help reduce risk.
2. Streamline communication and collaboration
The bullwhip effect can be avoided to a significant extent when different supply chain members quickly communicate and collaborate with each other.
Unexpected delays and disruptions should be quickly communicated, so all third parties can look for alternative options.
Similarly, suppliers should also gain a better understanding of customer needs, so they can more effectively keep up with changing demands.
3. Use demand forecasting best practices
Accurate demand forecasting is one of the best ways to prevent stockouts and reduce the risk of accumulating dead stock.
Using an inventory tracking system, historical sales data and orders trend detection can be tracked to provide insight into future demand, so the right amount of inventory can be ordered on time and even distributed across distribution locations based on demand.
Many fulfillment providers, like ShipBob, offer access to important supply chain analytics, which include real-time inventory tracking across fulfillment center locations and sales channels.
“A ShipBob integration I love is Inventory Planner. It saves me hours every week in Excel spreadsheets, and I can raise a PO in minutes when it used to take me hours.
For every order I placed for years, I was ordering too much or not enough. Between inventory forecasting tools and the ability to auto-create WROs, we don’t have stockouts much anymore. I sleep better at night.”
Wes Brown, Head of Operations at Black Claw LLC
5. Strengthen supplier relationships
Your suppliers are critical players in the supply chain. Forming a strong relationship with them can help to streamline your supply chain operations and prevent the bullwhip effect.
Paying your suppliers on time, addressing their challenges and concerns, and using supplier management tools can help you strengthen existing relationships.
It’s also best practice to partner with more than one supplier to build a more agile supply chain and reduce risk due to manufacturing closures, etc.
5. Limit price fluctuations
If you’re frequently running promotions and sales, it might be time reassess your pricing strategy as this might be disrupting customer buying patterns.
Consider limiting the number of promotions and sales so you can more accurately predict demand.
It might also be ideal to strategically plan your promotions and sales ahead of time and focus on incorporating them more accurately into your forecasting efforts.
How ShipBob helps you soften the blow
ShipBob is an omnichannel fulfillment provider that offers the visibility needed to manage an effective supply chain and mitigate the risk of the bullwhip effect.
Along with a network of fulfillment center locations across the globe, ShipBob’s centralized fulfillment platforms brings visibility throughout your logistics operations, including fulfillment locations and multiple sales channel.
This level of visibility helps you track of inventory levels throughout your network, to support demand planning and proper inventory replenishment.
Additionally, ShipBob’s fulfillment tools make it easy to:
- Keep track of daily inventory history to see how much you have in stock at any point in time.
- Plan and improve inventory distribution to optimize inventory across fulfillment centers.
- Manage SKUs and track SKU performance over time to analyze customer demand.
- And much more.
“ShipBob has given us increased visibility thanks to the dashboard that allows us to easily manage stock and orders. That wasn’t possible for us before. Our relationship with ShipBob has been a game-changer for Quadrant, and it’s made my life so much easier.”Will Kerr, Apparel Lead at Quadrant
Bullwhip effect FAQs
Here are answers to the top questions about the bullwhip effect.
Why is the bullwhip effect a problem?
The bullwhip effect can result in costly delays in the supply chain, understocking or overstocking, the inability to meet consumer demand, and much more. The impact of the bullwhip effect can be mitigated by increasing visibility throughout the supply chain.
What is the reverse bullwhip effect?
The reverse bullwhip effect is a phenomenon in which the demand variability increases the more you go downstream in the supply chain.
How do price promotions cause the bullwhip effect?
Price promotions result in increased sales, after which sales drastically drop once the promotion period ends, resulting in the bullwhip effect.