The bullwhip effect is the result of uncertainty caused from distorted information flowing up and down the supply chain. The bullwhip effect is caused by fluctuations in information supplied to firms further up the supply chain. Distorted information causes firms to forecast demand incorrectly. Thereby, many unnecessary costs are put upon each of the firms along the supply chain. Nearly all industries are affected! Firms that experience large variations in demand are at risk. Firms that depend on suppliers upstream or distributors and retailers downstream may be at risk. Most firms are affected by the bullwhip effect. The bullwhip effect used to be considered a normal phenomenon. However, recently, many firms have been trying to focus on how to improve communication along the supply chain. The bullwhip effect can inflict many unnecessary costs on business firms. Inventory costs from stored inventory, problems with quality caused from rapid production, overtime expenses for increased employee labor, and increased units being shipped create costs far and beyond normal levels of production. Customers can also lose faith in a firms ability to deliver products. This is because firms are having trouble meeting demand. Likewise, firms often must lengthen lead time for finished goods, which also may discourage customers, which in turn leads to lost sales. In a worst case, incorrect forecasts may entice a company to adjust capacity which could be detrimental to the overall success of the company. To reduce stocked product, retailers may offer sales promotions to customers. If retailers fail to notify firms upstream in the supply chain, these firms may forecast increased sales as legitimate demand. Thereby producing product that was not wanted by the customer in the first place. Furthermore, salesforce incentives may entice selling products to firms to meet targets. This may cause large inventories for the firm, or the firm may cancel the orders, which causes demand fluctuations in the supply chain. Firms upstream in the supply chain may feel that the increased demand may be legitimate and increase production and inventory levels to produce more. However, in reality, the product hardly moved and required a drop in price to be moved off of retailer’s shelves. Each firm upstream in the supply chain will feel the whip effect.
Here’s the classic illustration from The Bullwhip Effect in Supply Chains by Hau L. Lee • V. Padmanabhan • Seungjin Whang, SLOAN MANAGEMENT REVIEW/SPRING 1997.