MBA

OM01
Unit
Creation and sale of goods often involves a number of distinct firms operating in a serial time-line (Fig). In
a typical arrangement, suppliers provide raw materials to manufacturers, who provide finished goods to
wholesalers, who combine many manufacturers' products for sale to retailers, who then sell to the
consumer of the product.

Flow of Physical Goods

Supplier Manufacturer Wholesaler Retailer

Flow of Demand Information

 A bullwhip effect refers to the scenario in which small changes in demand at the retail end of
the supply chain becomes amplified when moving up the supply chain from the retail end to
the manufacturing end.
I must order 1000 packets excess 300 1500 packets Oh
will be in stock to meet uneven demand no! I must plan for
and provide good service level 2000

I am facing shortages of this

item and lead time is high, I
need 100 packets per month so
orders 500 packets

Retailer Distributor Manufacturer Supplier

I must order 700 packets excess 200 will I must manufacture 1500 packets excess
be in stock to meet uneven demand and 500 will be in stock to meet uneven
provide good service level demand and provide good service level
 Retailer Distributor Manufacturer Supplier

Small changes in
demand
Can A whip like
upstream
produce
 Why?
There are four main causes behind building up of bullwhip effect in supply chain. These causes are:

1. Demand Forecasting: Every company in a supply chain usually does a product forecasting for
its production scheduling, capacity planning, inventory control and material requirement planning.
This forecast is often done on the basis of previous orders placed by the customers. A very
common method of demand forecast is exponential smoothing in which future demands are
continuously updated as the real demand data becomes available. The order placed reflects the
amount needed to replenish the future demands as well as safety stock. Due to long lead times the
safety stock days surge resulting in greater order quantity fluctuations. Moving a level up, to the
manufacturers stage if the method of forecasting is same i.e. exponential smoothing then the
demand variability is even more, eventually creating a bullwhip.
2. Order Batching: In supply chain most of the organizations place orders with their upstream
suppliers after the accumulating them. The frequency of these orders is weekly, biweekly or at
times monthly depending on the product. There are several cost related and demand related
reasons for this practice. This can be demystified by an example of a company that places an order
once a month because of the nature of the product it deals in. The supplier faces a highly erratic
stream of orders. There is a spike in demand at one time during the month, followed by no
demands for the rest of the month. This variability is higher than the demands the company itself
faces. This practice amplifies variability leading to bullwhip effect. Transportation economics also
plays a major role in the frequency of order placements. If the truck load is not enough then the
order is not released as the cost is same irrespective of the load. Therefore companies prefer to
order only when accumulated requirements are enough for a truck load to fill. This period batching
3. Price Fluctuation: Price variation is a crucial factor that impacts the buying behavior of a
person. The customer buys in quantities that don’t reflect their immediate needs. They buy in
bigger quantities and stock up when the prices are low and reduce the purchase when the pieces
are normal, thereby creating a forward buy pattern in the chain. As a result the customers buying
pattern doesn’t reflect the consumption pattern and variation between the 2 grows which leads to
the bullwhip effect.
4. Rationing and Shortage Gaming: When the product demand exceeds its supply the
manufacturer is forced to ration them to the customers. Knowing that manufacturer will ration the
goods, customers exaggerate their real needs at the time of ordering. Later when the variation
between demand and supply plummets down, orders suddenly start to fade and cancellations pour
in. This overreaction of the customer is an outcome of anticipation due to lack of information and
interaction between the relevant parties. As the customer doesn’t get 100% delivery of the goods
required, he exaggerates the demand in order to receive the desired amount of goods.

From the above information it is clear enough

that all the factors or elements resulting in
bullwhip effect originate from a common
ground i.e. information sharing. It is
evident enough that the lack of information
and interaction between different stages
evolve bullwhip in the system thereby
plaguing the whole Supply Chain.
 The effect on performance
Performance Measure Impact of the lack of
Coordination
Manufacturing cost Increases
Inventory cost Increases
Replenishment lead time Increases
Transportation cost Increases
Shipping and receiving cost Increases
Level of product availability Decreases
Profitability Decreases
Quantifying the Bullwhip Effect
A commonly used method involves calculating the variance ratio:
•Bullwhip Effect (BWE)=Variance of Orders Placed to the Supplier/Variance of Customer Demand
•​Interpretation:
• BWE>1: Bullwhip effect is present (orders are more variable than demand).
• BWE=1: No amplification (perfect synchronization of orders and demand).
• BWE<1: Dampening effect (rare in practice, may occur with certain smoothing policies).

Steps to Quantify Bullwhip Effect

1.Gather Data:
1. Collect time-series data for customer demand (e.g., sales) and the orders placed to suppliers.
2. Ensure the data spans multiple periods for a meaningful analysis.
2.Calculate Variance:
1. Compute the variance of the customer demand ​).
2. Compute the variance of orders placed to suppliers (
3.Compute Variance Ratio:
1. Divide the variance of orders by the variance of demand.
4.Analyze Results:
1. Use the calculated ratio to assess the extent of the bullwhip effect.
Example Calculation
Suppose a retailer observes:
•Monthly customer demand variance: ​) = 100
•Monthly order variance: () = 300

BWE= =
Interpretation:
•The bullwhip effect is present with orders being three times more variable than customer demand.
Let’s take a hypothetical dataset example to quantify the bullwhip effect. Suppose we are analyzing data for a
retailer and its supplier over six months. The retailer tracks customer demand, and the supplier tracks orders
placed by the retailer.
Month Customer Demand (Units) Orders Placed to Supplier (Units)
1 100 110
2 120 130
3 115 150
4 130 170
5 140 160
6 125 180

Calculate the mean of customer demand: µt =

Calculate the variance s2t=

 Base stock level 𝐿∗ 𝐴𝑉𝐺+𝑧 ∗ 𝑆𝑇𝐷 ∗ √ 𝐿

Order upto the point in period t,

yt is estimated from the =µtL + z
observed demand
Where, µt =

s2t=

In every period the retailer calculates a new mean and SD based on the p most recent
observations of demand. As mean and SD changes every period, the target inventory level also
will change in every period
In this case we can quantify the increase in variability. If the var (D) and Var(Q) i.e variance of the
customer demand seen by the retailer and variance of the orders placed by that retailer to the
manufacture
shows the lower bound on the increase in variability as a function of p for various values of
the lead time, L. In particular, when p is large and L is small, the bull whip effect due to
forecasting error is negligible. The bull whip effect is magnified as we increase the lead time
and decrease p.
 Key Observations:
1.Curves Represent Different Lead Times (LLL):
1. The three curves correspond to lead times of L=1, L=3, L=5.
2. As L increases, the variability ratio also increases, meaning that longer lead times cause greater amplification of
variability in upstream orders.
2.Effect of p (Forecasting Window):
1. For small values of p, the variability ratio is significantly higher because forecasts are based on fewer historical data
points, leading to higher inaccuracies and fluctuations.
2. As p increases, the variability ratio decreases, approaching a minimum bound (closer to 1) for all lead times. This
implies that using a longer history of past data for forecasting reduces the impact of variability.
3.Steeper Curves for Longer Lead Times:
1. For L=5, the curve starts much higher, indicating that the amplification of variability is more pronounced for longer
lead times.
2. Even as p increases, the curve for L=5 settles at a higher variability ratio compared to L=3 and L=1.
Implications:
1.Shorter Lead Times Help Control Variability:
1. Lower LLL reduces the amplification of demand variability upstream. This emphasizes the importance of reducing lead times in supply
chains.
2.Use More Data for Forecasting:
1. Increasing p (the number of periods used for forecasting) significantly reduces variability in upstream orders, especially for shorter lead
times.
2. However, beyond a certain point (e.g., p>20), the benefit of adding more data diminishes, as seen by the flattening of the curves.
3.Balance Between p and L:
1. For effective variability control, supply chains should aim to:
1. Reduce lead times (L).
2. Use an optimal forecasting window (p) to balance responsiveness and accuracy.
  Methodology
 Diagnostic
Evaluates and compare supply chain activities and performance
 Benchmarking

Helps organisations Dramatic and rapid Supply chain process

•What is the SCOR Model?

• A process reference model for supply chain management.
• Developed by the Supply Chain Council (SCC).
•Purpose:
• Improve supply chain efficiency.
• Provide a framework for performance measurement.
 Plan

Plan Plan
Deliver Source Make Source
Source Make Deliver Source Make Deliver

Return Return Return Return Return Return

Return Return

Supplier’s Supplier Supplier Company Customer Customer’s Customer

Five Core Processes:

Plan: Demand
Return: Handling of forecasting, capacity
returns, recycling, planning, and supply
and disposal. chain alignment.

Deliver: Distribution, Source: Procurement

logistics, and order of raw materials or
fulfillment. products.

Make: Manufacturing,
production, and
assembly activities.
 • Strategic sourcing.
Strategic (Years):•
Long-term Supply chain mapping.
planning, such as:

Tactical (Months): • Supply chain contracts.

Medium-term • Sales and operations planning.
planning, such as:
• Inventory replenishment.
Operational (Days): Day-to- • Workforce scheduling.
day activities, such as:
SCOR Domain Source Make Deliver Return
Schedule and
Request, approve,
Order and receive manufacture, repair, Receive, schedule,
and determine
Activities materials and remanufacture, or pick, pack, and ship
disposal of products
products recycle materials orders
and assets
and products

Strategic sourcing Location of plants Location of

Location of return
Strategic Supply chain Product line mix at distribution centers
centers
mapping plants Fleet planning
Transportation and
Product line
Tactical sourcing distribution
rationalization Reverse distribution
Tactical Supply chain planning
Sales and operations plan
contracts Inventory policies at
planning
locations

Materials
Workforce
requirement
scheduling
planning and Vehicle routing (for Vehicle routing (for
Operational Manufacturing,
inventory deliveries) returns collection)
order tracking, and
replenishment
scheduling
orders
Demand forecasting
Plan (long term, mid term,
and short term)
 Role of sourcing in a supply chain
Purchasing, also called procurement, is the process by which companies acquire
raw materials, components, products, services, or other resources from
suppliers to execute their operations.
Sourcing is the entire set of business processes required to purchase goods and
services.
Outsourcing results in the supply chain function being performed by a third
party.

Examples:
W. W Grainger: (MRO distributor)Owns DC but outsource
transportation
Dell: outsources retailing since 2006/2007
Apple: expanding insourcing of retailing
P&G: outsources retailing
 Outsourcing of supply chain activities by a firm based on the following three
questions:
1. Will the third party increase the supply chain surplus relative to performing the activity in-house?
2. To what extent do risks grow upon outsourcing?
3. Are there strategic reasons to outsource?

Aids of effective sourcing decisions:

1. Higher quality and lower cost
2. Better EoS
3. Overall cost of purchasing reduces
4. Design collaboration can result in products that are easier to manufacture and distribute, resulting in
lower overall costs.
5. facilitate coordination with the supplier and improve forecasting and planning. It lowers inventories
and improves the matching of supply and demand.
6. Appropriate sharing of risk and benefits can result in higher profits for both the supplier and the
buyer.
7. Firms can achieve a lower purchase price by increasing competition through the use of auctions
When designing a sourcing strategy, it is important for a firm to be clear on the factors that have the greatest
influence on performance and target improvement on those areas. For example, if most of the spending for a
firm is on materials with only a few high-value transactions, improving the efficiency of procurement
transactions will provide little value, whereas improving design collaboration and coordination with the supplier
will provide significant value. In contrast, when sourcing items with many low-value transactions, increasing the
efficiency of procurement transactions will be valuable.

The decision to outsource is based on the growth in

supply chain surplus provided by the third party and
the increase in risk incurred by using a third party.
 Performing the function in- A firm should consider
house is preferable if the outsourcing if the growth in
growth in surplus is small or the surplus is large with a small
increase in risk is large. increase in risk.
Capacity aggregation Transportation
Inventory aggregation Ex UPS
Intermediaries
Transportation aggregation
Warehouse aggragation Storage
Ex Walmart
Procurement aggregation intermediaries
Information aggregation
Receivables aggregation
Relationship aggregation
Lower costs and higher quality
 SCALE
Interplay of the Factors
Factors The increase in surplus provided by a third party depends on
Influencing the interplay of these factors:
Growth of Uncertainty
Surplus by a
Third Party
Specificity
of assets Specificity of assets
Uncertainty
ensures that third
underscores the
Scale amplifies cost parties can tailor
need for flexibility
reductions and their offerings to the
Scale refers to the volume of operations or the extent of and adaptability,
operational unique needs of the
resources and services a third party can offer. where third parties
efficiency. company,
can smooth
maximizing
variability.
effectiveness.
Uncertainty relates to variability in demand, supply disruptions,
or external factors affecting the supply chain (e.g., economic
fluctuations or natural disasters).

Specificity of assets refers to how tailored a third party’s

resources or services are to meet a company’s unique needs.
This includes physical assets (e.g., specialized equipment) or
intangible resources (e.g., domain expertise).
Growth in Surplus by Third Party as a Function of Scale, Uncertainty, and Specificity
Specificity of Assets Involved in Function
Low High
Low High growth in surplus Low to medium growth in surplus
Firm Scale No growth in surplus unless cost of capital is
High Low Growth in surplus
lower for third party
Low to medium growth in surplus Low Growth in surplus
Low
Demand Uncertainty
for firm High growth in surplus Low to medium growth in surplus
High

Firm Scale and Specificity of Assets

•Low Firm Scale + Low Asset Specificity: High growth in surplus because third parties can efficiently aggregate
demand and leverage economies of scale.
•Low Firm Scale + High Asset Specificity: Low to medium growth in surplus, as third parties can still provide value by
using specialized resources, but growth is limited by specificity.
•High Firm Scale + Low Asset Specificity: Low growth in surplus because the firm is already achieving economies of
scale internally, reducing the added benefit of a third party.
•High Firm Scale + High Asset Specificity: No growth in surplus unless the third party offers a lower cost of capital or
other strategic benefits.
Growth in Surplus by Third Party as a Function of Scale, Uncertainty, and Specificity
Specificity of Assets Involved in Function
Low High
Low High growth in surplus Low to medium growth in surplus
Firm Scale No growth in surplus unless cost of capital is
High Low Growth in surplus
lower for third party
Low to medium growth in surplus Low Growth in surplus
Low
Demand Uncertainty
for firm High growth in surplus Low to medium growth in surplus
High

Demand Uncertainty and Specificity of Assets

•Low Uncertainty + Low Asset Specificity: Low to medium growth in surplus, as predictability reduces the need for
third-party flexibility, and the function does not require specialized resources.
•Low Uncertainty + High Asset Specificity: Low growth in surplus, as the firm does not benefit significantly from
third-party flexibility or specialized expertise in a predictable environment.
•High Uncertainty + Low Asset Specificity: High growth in surplus, as third parties can efficiently handle variability
without needing specialized assets.
•High Uncertainty + High Asset Specificity: Low to medium growth in surplus, as specialized assets may limit
flexibility, but third parties still help manage uncertainty.
Risks of using a third party
1. The process is broken
2. Underestimation of the cost of coordination.
3. Reduced customer/supplier contact.
4. Loss of internal capability and growth in third-party power.
5. Leakage of sensitive data and information.
6. Ineffective contracts.
7. Loss of supply chain visibility.
8. Negative reputational impact.
Strategic Factors in Sourcing
Besides economic factors and risks, strategic
factors must be accounted for when making
sourcing decisions.
1. Support the business strategy.
2. Improve firm focus