Bullwhip effect

The Bullwhip Effect (or Whiplash Effect) is an observed phenomenon in forecast-driven distribution channels. Because customer demand is rarely perfectly stable, businesses must forecast demand in order to properly position inventory and other resources.

Forecasts are based on statistics, and they are rarely perfectly accurate. Because forecast errors are a given, companies often carry an inventory buffer called "safety stock". Moving up the supply chain from end-consumer to raw materials supplier, each supply chain participant has greater observed variation in demand and thus greater need for safety stock. In periods of rising demand, down-stream participants will increase their orders. In periods of falling demand, orders will fall or stop in order to reduce inventory. The effect is that variations are amplified the farther you get from the end-consumer.

Supply chain experts have recognized that the Bullwhip Effect is a problem in forecast-driven supply chains, and careful management of the effect is an important goal for Supply Chain Managers. The alternative is to establish a demand-driven supply chain which reacts to actual customer orders. In manufacturing, this concept is called Kanban.

This model has been most successfully implemented in Wal-Mart's distribution system. Individual Wal-Mart stores transmit point-of-sale (POS) data from the cash register back to corporate headquarters several times a day. This demand information is used to queue shipments from the Wal-Mart distribution center to the store and from the supplier to the Wal-Mart distribution center.

The result is near-perfect visibility of customer demand and inventory movement throughout the supply chain. Better information leads to better inventory positioning and lower costs throughout the supply chain. Barriers to implementing a demand-driven supply chain include investments in information technology and creating a corporate culture of flexibility and focus on customer demand.