Consequences of the Bullwhip Effect
The bullwhip effect is a common problem that occurs in retail supply chain management. It is the tendency of retail buyers to overcompensate for situations in which the company fails to meet or overestimates customer demand. This effect goes against a common objective of supply chain management, which is to create just-in-time product availability without waste. The bullwhip effect has several negative consequences.
If consumer demand is lower than you expect, resulting in excess inventory, the bullwhip effect dictates that the psychological response is to lower supply on future inventory orders. This can lead to stockouts when you overcompensate or if customer demand jumps. This is one of the worst consequences of a bullwhip effect because you miss out on sales and potentially damage your company relationships with customers.
On the flip side, buyers may overcompensate when they undersupply market demand and stockouts occur. The tendency following this event is to order extra inventory to protect against future occurrences of product shortages. This can lead to excess inventory on hand if you order too much or if customer demand falls. Excess inventory often must be marked down over time or thrown out when the products are perishable.
When companies experience the bullwhip effect consistently and in extremes, they may consider changing buying or ordering processes. Batch ordering, where you buy large amounts of product infrequently, contributes to the bullwhip effect. One strategy to alleviate this is to go to more frequent, smaller orders. This costs more in shipping, but it helps you avoid wasted inventory while putting you in a position to constantly have new product arriving in stores.
The bullwhip effect can cause company buyers to put pressure on suppliers, which may lead to tense relationships. Unexpectedly high demand, for instance, could mean asking suppliers to quickly produce or ship high levels of inventory right away. In other cases, buyers negotiate buyback arrangements that force suppliers to take back excess inventory. If you constantly have faulty demand forecasting, suppliers can become frustrated with constant shifting and urgent demands.