Experts say it could take 12-18 months for recent incidences of the bullwhip effect to settle down ©Alamy
Experts say it could take 12-18 months for recent incidences of the bullwhip effect to settle down ©Alamy

How to manage the bullwhip effect on your supply chain

Will Green is news editor of Supply Management
14 February 2022

In the scrabble for supplies, buyers risk experiencing the bullwhip effect, which compromises their ability to manage stock. So how can you come out without a lashing? 

Never mind Squid Game, anyone who has stood at a bar eagerly awaiting their brew of choice only to find it has run out may have been collateral damage in ‘the Beer Game’. Invented by MIT academic Jay Forrester in 1960, the game seeks to emulate behaviours in supply chain management that lead to excess inventory or stockouts, otherwise known as the bullwhip effect.

For the uninitiated, the Beer Game involves players assuming the role of brewer, bottler, wholesaler or retailer and taking turns to pass orders on slips of paper along the supply chain. A single person’s cautious overestimation can accumulate along the chain and result in high costs, overstock and inevitable finger pointing. But the purpose is not to win or lose, it’s to learn – the game illustrates that business activities are not isolated, but part of an intricate, co-dependent system that relies on all players.

It became an MIT institution and its relevance is starkly clear today. As an MIT Sloan senior lecturer said: “Somewhere in America, in some way, shape or form, a company is essentially playing the Beer Game every day. They just don’t realise it.”

Learn from past trends

Applying this to present times, we see that years of inventory-building in the lead up to Brexit, followed by frenzied buying as economies opened up after pandemic lockdowns, have seen warehouses in the UK and Europe filled to bursting. And the situation is similar the world over, with the US responding to extreme weather and logistics issues, and East Asian tech firms stocking up on components. Many firms have moved from just-in-time to just-in-case supply chain models, upping their inventories of critical items.

Thibault Lecat, managing director at management consultancy Inverto UK, believes it will take a minimum of 12-18 months for the impact of recent supply chain disruptions to see significant improvement. “As businesses pump their stocks and seek to shield themselves from pandemic-related disruption, it’s likely we will see a glut in inventory when we return to business as usual,” he tells Supply Management.

Claire Bottle, chief executive at the UK Warehousing Association, points to panic buying of toilet roll in 2020, saying: “People overcompensate in forecasting after they’ve had a shock. That overcompensation accumulates through the different steps of the forecast. That forecast will go from consumers to retailers to distributors to manufacturers to raw material providers. If everybody overcompensates, you get this so-called bullwhip effect, which is where you end up with way too much of something.”

Are you overcompensating on orders? 

Demand for warehousing is currently unprecedented and shows little sign of abating. In the UK over the past six years, the amount of land given over to warehousing has grown by 32%, according to Bottle. Typically previous vacancy rates would have been 5-10% but now it’s about 2%. Meanwhile, continued growth in e-commerce, which requires more space to dispatch goods to consumers’ homes and process returns, is piling up pressure on warehousing.

“It’s all very well if you own the stock and you’re running your own warehouse,” Bottle says, “but people are doing that less often. More businesses are outsourcing their logistics to a third party, which makes its money on the throughput of stock. So having stock that just sits there is really unhelpful economically.”

This is the risk at the heart of the Beer Game – order too much and you incur ruinous storage expenses, but not being able to fulfil orders damages sales. Lecat believes outsourcing could provide an answer, along with supply chain finance to smooth out payments.

“In the first instance, businesses should consider outsourcing some or all of their inventory and its management to a specialised firm,” he says. “These organisations can have a significant positive impact on cash flow and P&L, as they would own the stock up until the moment it’s needed. Businesses should also seek to leverage supply chain financing as a way to ease the financial burden and cost of working capital.”

Emma Goodwin, head of procurement and supplier management at Wesleyan, which provides financial services to doctors, dentists and teachers, says the organisation made a decision not to stockpile so it would not draw resources away from those with greater need.

“We’ve gone through almost two years of turbulence, where you can’t forecast any markets, but we are not stockpiling,” she says. “We naturally have a small stock and we’re constantly replenishing it, but we’re not taking additional stock above our normal levels.”

Balance the supply risk

Instead, Goodwin has adopted a strategy of extended forecasts, closer communications with the supply chain, and contingency arrangements should a supplier fail. “For us it’s about accurate forecasting and the sustainability of our supply chain,” she says.

“We are seeing people coming to us and asking for price increases. What we don’t want is for people not to be here because we didn’t pay the right price at the time and their margins were so squeezed it wasn’t worth them continuing. We are placing orders well in advance of when we used to. So where an order was placed three months in advance, it’s now six or nine months to ensure that continuity of supply.”

Lecat agrees on the value of forecasting. “To sustain a healthy supply chain, businesses should revisit their demand planning and forecasting approach and invest in or upgrade their inventory management system,” he says. “Through improved visibility, one can progressively reduce inventory levels and leverage strategic segmentation to over-stock the critical items when needed.”

The skill, Bottle says, is striking a balance between service levels and inventory cost. “As with many things in logistics, it’s a trade-off,” she says. “If money were no object you could have perfect service levels, but money is an object, so you can’t. You have to weigh up, is 99% service okay or would 98% be all right? Because the cost differential is not a one percentage point difference.”

Lecat sees this moment as an opportunity to bolster supply chains and plan for the future. “The current climate is the perfect time to reassess,” he says. “By building in agility, strengthening strategic partnerships with suppliers and adapting ways of working to reflect the new reality, businesses can future-proof their supply chains for the years ahead.” 

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