The Last Crack of the Bullwhip

[From iSource Business, September 2001] Supply chain management (SCM) has become a hot topic over the past few years, as innovative and valuable SCM solutions have emerged. The awareness of real and potential improvements in SCM has reached the highest levels of business and government, as evidenced by Alan Greenspan's comments in February of this year: "New technologies for supply chain management and flexible manufacturing imply that businesses can perceive imbalances in inventories at a very early stage."

Why this heightened awareness? The answer is simple: There is a real opportunity to create more productive value chains through improved SCM.

For example, leading companies are finally taming the well-documented supply chain phenomenon known as the "bullwhip effect. The bullwhip effect is a pervasive supply chain problem whereby order variability grows as demand signals propagate upstream. Essentially, demand spikes as orders flow back from retailer to distributor to original equipment manufacturers (OEMs) to tier-one suppliers, and so on. Variability is the bane of any system, and in the supply chain the chief results of large order swings are increased inventories and reduced service levels.

The bullwhip effect is the result of neither error nor irrational decisions by SCM personnel. As described by H.L. Lee, P. Padmanabhan and S. Whang in a 1997 article in Sloan Management Review, the true culprit is misleading and insufficient information transmitted by inferior supply chain infrastructure. Without true demand visibility, supply chain participants must interpret distorted demand signals to make their operating decisions.

However, many of these distortions are the direct result of companies' operating procedures. For example, most companies release orders to supply chain partners in batches after weekly or monthly manufacturing resource planning (MRP) runs. Unfortunately, these batch releases tend to coincide across companies, causing the upstream partner to receive a lumpy demand signal. Another example of demand distortion is the significant cost of processing a purchase order, estimated at between $50 and $250 for the typical company, which also results in the batching of orders to suppliers.

The bullwhip effect is being tamed, however, by the introduction of new supply chain solutions that improve information sharing across the supply chain. These range from simple information sharing programs to vendor-managed inventory (VMI) programs and just-in-time production techniques. For instance, VMI programs can employ blanket purchase orders and the sharing of daily consumption information and inventory levels to stop the bullwhip effect in its tracks. Previously, such programs were managed with spreadsheets or through onsite supplier visits. But manual methods proved costly and prohibited it from becoming widly adopted. With new, Internet-based SCM solutions, however, VMI programs can be managed more effectively and expanded to a larger set of companies.

Why is the adoption of these programs accelerating now? Certainly one contributor is electronic communication enabled by the Internet and Extensible Markup Language (XML), which is less expensive, allowing more companies to participate in the rapid exchange of supply chain data. Another factor is the "second-mover advantage" where early adopters have cut a path for the majority to follow. Many of these early adopters, like Dell and Cisco Systems, found their only chance of success lay in operating within a distributed supply chain model where more of the value chain is outsourced, and by summarily dispatching the bullwhip effect. Still, other companies have plenty of opportunity to adopt and expand these practices, thereby eliminating the bullwhip effect from their supply chains. As Alan Greenspan noted: "Our most recent experience with some inventory backup, of course, suggests that surprises can still occur and that this process is still evolving. Nonetheless, compared with the past, much progress is evident."

The current level of collaboration is typically limited to a subset of immediate upstream or downstream partners. The benefits from implementing multi-level collaboration are enormous but have only just begun to be tested. For companies that haven't implemented these SCM practices, with at least their close partners, there is a real risk of being leapfrogged as the leaders move to exploit multi-level collaboration. The time to adopt proven bullwhip-killing techniques is now, since early adopters have already taken the riskiest steps.

Chris Smith is the CEO of Efinity Inc., a provider of supply chain management solutions for the distributed supply chain.