Bullwhip Effect Case Study

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Bullwhip effect is a theory that the farther a company gets away from the customer, the more variable the demand is. This makes no sense -- it's like saying the more stocks you have in your portfolio the more volatile it will be. What happens is not a bullwhip at all. Look -- a 5% change in demand is a 5% change in demand up the entire stream. If the front-line retailer is in line with the industry change, then that means everybody in the industry is going to see a 5% change in demand. The raw number change in demand up the supply chain is bigger, but it's still the same percentage. The producer is a bigger company to begin with, so it is equipped to handle this change to the same degree that the retailer is. Furthermore, if the 5% change at the retailer level includes some component that is specific to that one retailer, than the industry change is going to be much less than 5% - in other words less volatile. Diversification decrease volatility, because you have to look at this on a percentage basis. Looking at raw numbers, when the producer is operating at a much larger scale than the individual retailer, makes no sense.

Indeed, a quick look at the explanation for the bullwhip effect tells me that it is a fiction. The following can contribute to the bullwhip effect: overreaction to backlogs, neglecting to order in an attempt to reduce inventory, no communication up and down the supply chain, delay times for information and material flow (QuickMBA, 2010). If these are the causes, then these are the causes.

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It is not the change in demand that causes the inventory problems at all; it is the mismanagement of the inventory. The terminology and definition of bullwhip effect pins the blame on the change in demand when clearly it is the inventory management practices, and not the change in demand, that create this effect.

Now, vendor managed inventory can be a solution to this "bullwhip effect" if it addresses the causes. If we take at face value that change in demand is the cause, VMI does not affect that. Looking at the other causes, they relate mostly to lousy communication and mismanaged inventory policy. VMI is, if nothing else, a consistent system. The retailer provides information to the vendor, and it is the job of the vendor to manage the inventory level of the retailer. This technique is used in some fairly large companies -- a lot of grocery store distributors take this responsibility. Pepsi uses this to manage its deliveries to stores -- the reps are responsible for maintaining inventory levels, based on the demand information provided to them.

The issue with VMI is that it places the onus on managing the inventory on the vendor, which means you have to trust the vendor. If I run a convenience store, I trust Pepsi to keep my fridge full. I might trust some of my other major suppliers as well. These are well-run companies with a global track record of executing this type of system. But I do not trust any company that does not run a VMI system. If that is not what they do,….....

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