The Bullwhip Effect in Supply Chain

(The article is a summary from the paper written by Hau L. Lee, V. Padmanabhan and Seungjin Whang and taken from sloan management review/spring 1997)

Distorted information from one end of a supply chain to the other can lead to tremendous inefficiencies excessive inventory investment, poor customer service, lost revenues, misguided capacity plans, ineffective transportation, and missed production schedules. The article deals with how do exaggerated order swings occur? What can companies do to mitigate them?

Summary
The bullwhip effect results from rational decision making by members in the supply chain. Companies can effectively conteract the effect by thoroughly understanding its underlying causes. Industry leaders like P&G are implementing innovative strategies that pose new challenges: integrating new information system, defining new organizational relationships, and implementing new incentive and measurement systems. The choice for companies is clear: either let the bullwhip effect paralyze you or find a way out.

What is Bullwhip effect in supply chain?
This effect first came to my knowledge while my professor was of SCM was trying to teach us the reason for extremely high inventory by making us play the ‘Beer Game’. Here each of the four participants are given the role of ‘retailer’, ‘wholesaler’, ‘distributor’ and ‘manufacturer’. The retailer is randomly given a customer demand based on which the retailer try to forecast future demand and gives the order to wholesaler with some built in ‘safety stock’. Now as the process moves upward, from wholesaler to distributor to manufacturer, to my utter surprise, even if all the decision seems perfectly rational the inventory kept on increasing at each level. You will not believe the end result, the retailers fluctuation in demand only varied from some 8 to 16 over a period of 24 turns (that we played) and the total inventory and total backorder in entire supply chain was running in excess of 2000!!!
This is what is called ‘Bullwhip effect’. Here are some of the real life examples of this effect in play. It was observed by executives of P&G that the sales patterns for one of their best-selling products pampers fluctuates in retail stores, but the variabilities were certainly not excessive. However, as they examined the distributor’s orders, the degree of variability increased. When they further looked at P&G’s orders of materials to their suppliers, such as 3M, they discovered that the swings were even greater. This did not make sense. While the consumers, in this case the babies, consumed diapers at a steady rate, the demand order variabilities in the supply chain were amplified as they moved up the supply chain. This effect is called the bullwhip effect / whiplash effect / whipsaw effect.
As per wiki, the bullwhip effect is 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 as one moves upstream in the supply chain (further from the customer)
In short, Bullwhip effect is the magnification of demand fluctuations, not the magnification of the demand. This could be really costly to any company.

(The beer game could be made available on request. If required, please send a mail to akshat1604@gmail.com with subject line “request for beer game”. The game is also available online…just try to google a bit!!)

Consequence of Bullwhip Effect
· Excessive inventory quantities : Various studies have found that the total supply chain, from when products leave the manufacturers production lines to when they arrive on the retailers shelves, has more than 100 days of inventory supply. Also, various reports estimates a potential $30 billion opportunity from streamlining the inefficiencies of the grocery supply chain.
· Poor customer service
· Lost revenue
· Unsatisfactory quality
Causes of Bullwhip Effect
People generally believe that the amplified order variability is the case cause of players irrationally decision making within the supply chain’s infrastructure. On the contrary, the fact is that bullwhip effect is the consequence of rational behavior of various players involved in the supply chain. This implies that the companies should try to modify the chains infrastructure and related processes rather than the decision makers behavior.
· Demand forecast updating: Forecasting is often based on order history from the company’s immediate customers. When a downstream operation places an order, the upstream manager processes the piece of information as a signal about future demand. Based on this forecast, the upstream manager readjusts his or her demand forecast and, in turn, the order placed with the suppliers of the upstream operation. This demand signal processing is the major contributor to the bullwhip effect. It is intuitive that, when the lead times between the resupply of the items along the supply chain are longer, the fluctuations is even more significant

· Order batching: There are two forms of order batching, a) Periodic ordering and b) Push ordering. Instead of ordering frequently, companies may order weekly, biweekly, or even monthly. The order batching is generally done to minimize the cost of ordering or to use the economies of transportation. This causes sudden increase in demand of the product thereby amplifying variability. For companies, the ordering pattern from their customers is more erratic than the consumption patterns that their customer experience. However, if all customers order cycles were spread out evenly throughout the ordering cycle, the bullwhip effect would be minimal. The periodic surges in demand by some customers would be insignificant because not all would be ordering at the same time. Unfortunately, such an ideal situation rarely exists. Orders are more likely to be overlapping towards let say end of the month or year. As a result, the surge of demand is even more pronounced, and the variability from the bull-whip effect is at its highest.

· Price fluctuations: Manufacturers and distributors periodically have special promotions like price discounts, quantity discounts, rebates etc. All these promotions results in price fluctuations. The result is that customers buy in quantities that do not reflect their immediate needs; they buy in bigger quantities and stock up for the future. The problem is it could be costly if forward buying becomes the norm? When a products price is low (due to offers), a customer buys in bigger quantities then needed. When the products price return to normal, the customer stops buying until it has depleted its inventory. As a result, the customer’s buying pattern does not reflect its consumption pattern, and the variation of the buying quantities is much bigger than the variation in the consumption rate – the bullwhip effect. This practice of giving regular discounts is sometimes called ‘the dumbest marketing ploy ever’.

· Rationing and shortage gaming: When product demand exceeds supply, the manufacturers often ration its product to customers. Generally, the manufacturer allocates the amount in proportion to the amount ordered. Knowing that the manufacturer will ration when the product is in short supply, customers exaggerate their real needs when they order. Later, when demand cools, order will suddenly disappear and cancellation pours in. In short, the customers try to ‘game’ the rationing system adopted by the seller. The effect of ‘gaming’ is that customers orders give the supplier little information on the products real demand, a particularly vexing problem for manufacturers in a products earlier stages.
How to counteract the Bullwhip Effect
Innovative companies in various industries have found that they can control the bullwhip effect and improve their supply chain performance by coordinating information and planning along the supply chain. Understanding the causes of the bullwhip effect can help managers find strategies to mitigate it.
· Avoid multiple demand forecast updates: Ordinarily, every member of a supply chain conducts some sort of forecasting in connection with its planning. Bullwhip effects are created when supply chain members process the demand input from their immediate downstream member in producing their own forecasts. Demand input from the immediate downstream member, of course, results from that member’s forecasting, with input from its own downstream member. Hence the best remedy to this is that to avoid repetitive processing of consumption data in a supply chain and instead to make available the demand data at a downstream site available to the upstream site. Hence, both sides can update their forecasts with the same raw data. In short share the POS data with the manufacturer. Hence, either by having mechanism (EDI) to share data or by bypassing the supply chain can counteract the ‘Bullwhip Effect’

· Back order batches: Since order batching contributes to the bullwhip effect, companies need to devise strategies that lead to smaller batches or more frequent resupply.

· Stabilize Prices: The best way to control bullwhip effect is to reduce both the frequency and the level of wholesale price discounting, establish a uniform wholesale pricing policy.

· Eliminate gaming is shortage situation: When a supplier faces a shortage, instead of allocating products based on orders, it can allocate in proportion to past sales record.

Ten reasons to use global sourcing

(Detail on the subject post will be made available on request via e-mail. Kinldy email with title as the subject to akshat1604@gmail.com)

Ten reason to use global sourcing are:
1.Material is available only from global sources
2.Technology is only available from global sources
3.Lower total cost of goods
4.To meet quality requirements
5.To establish additional sources of supply
6.Anticipation of actual material shortages
7.Support in global markets for domestic products
8.Support to other organizational global operations
9.Global sources can be more reliable
10.Joint ventures

Capturing and Gauging the Impact of In-store Promotion on Consumer Buying Decision

(From the article published in Marketing Mastermind)
The service offerings in most of the modern organized retail outlets do not have much of the required difference as expected by the leading players. Hence, the players would normally depend heavily on high decibel indoor and outdoor promotion strategies. Especially, the in-store promotion would come handy in influencing consumers to make in-store impulse decisions.
The in-store promotion schemes could broadly be classified into two categories:
· Monetary based promotion scheme – price off offers, unit or volume discount offers, combo or bundle offers, etc.
· Non-monetary based scheme – this mainly deals with the product/brand communication to the target consumers. This promotion would normally spread across the store. The location of this type of promotion is very vital to capture the consumer’s attention so as to influence their buying decision.
A non-monetary based promotion are generally sponsored by the manufacturers with the aim of sales promotions and is mostly targeted at those customers who have already decided to buy but are not sure of the brand that they want to buy. On the other hand, the monetary offers will influence even window shoppers or those who have not decided you to make a purchase. However, monetary and non-monetary in-store promotion strategies are very complementary in nature as both are very synergetic to a store’s performance. The primary motto of in-store promotion (monetary and non-monetary) will be to increase footfalls and the effective conversion of the same into sales. The aim of such combined promotional offers is also to get repetition of the footfalls and the enhancement of store or company loyalty among target consumers.
It is vital to have a concrete conceptual framework in order to capture and gauge the impact of in-store promotion in influencing consumer buying decision. A set of key indicators are required to provide a definite cue to the organized retailers to design effective monetary and non-monetary in-store promotion strategies. Some the possible key indicators for capturing and gauging the impact of in-store promotion on consumer buying decisions are:
· Setting an attainable goal – Deciding and quantifying the purpose of promotions
· Selection of target consumers
· Identification of promotion requirements
· Duration of the promotion
· Decide on monetary and non-monetary promotionDesigning, capturing and gauging mechanism

Private Label: An armour of organized retail

(Article written by self and my colleagues and published in RetailBiz)

A popular story within Food Bazaar as told to us by an employee mentions how Food Bazaar came up with the idea of their own Tasty Treat – the ready-to-eat snacks, a private label of Food Bazaar, when Pepsico’s Frito-Lay decided not to sell to Pantaloons Food Bazaar as they disagreed on terms of trade. And now Tasty Treat competes head on with market leaders like ITC’s Bingo and Pepsico’s Lays and Kurkure in a Rs 2000Cr snack market. Today Pantaloon Retail has more than 80 products comprising 350 SKUs with private labels in four main categories. Encouraged by the success of the private labels, the company is planning to launch more brands in various other categories. PRIL aims that, in the long run these brands will enjoy same trust that the best manufacturers brands enjoy today.
We wonder if this is some indication of how large organized retailers are now leveraging their power and position of being the only one, in entire value chain, in direct contact with the end consumers, in dictating their terms with manufacturers. We wonder how the manufactures are going to deal with this rising power and can both the manufacturers brand and private brands co-exist.

According to a Euromonitor study, the global private label market was estimated to be worth $1,411 billion in 2005, and is growing at 6% per annum. Organized retail currently forms only about 3.59% of total retail in India (graph 1), but its share will leap to 28 percent by 2017, according to a study by Technopak Analysis. And a 2007 study by Technopak says that overall, private labels already form 19 percent of the total market share in India

Why private label?
A private label is an industry jargon for the brands sold only by the retailers exclusively through their stores. Today’s private labels represent essence of stores image. It is no longer about few top brands that store carries. Instead it is about offering exclusive products that define the retailer’s image. It helps retailers to create value for consumers by providing them high or comparable quality products at a price lower than the major brand thus filling in the value gaps and thereby gaining customer’s loyalty.

Also, in the current Indian scenario only 20-30% products are branded. This makes it difficult to fill up the shop space. Private labels can accomplish this and may lead to an increase in the footfalls. But at the same time retailers must ensure that private labels have a strategic positioning rather than merely introducing a product.

WEAKNESS
ü High development & innovation cost
ü Inventory risk
ü Dependence on manufacturer of private label
STRENGTHS
ü Decrease reliance on national brands
ü Increased negotiating power
ü Allows differentiation from other retailers
ü Higher profitability and profit margins
ü Flexibility in controlling & managing shelves
ü Helps increase footfalls
ü Increased customer loyalty
ü Full control on pricing

Private labels give the retailers the ability to negotiate better terms with manufacturers. It also gives the retailers an opportunity to earn higher margins as it cuts down on middlemen and other non-value adding costs.

OPPORTUNITIES
ü Huge market potential
THREATS
ü Low hanging fruits is gone – enter more challenging categories
ü Manufacturers partnering with local kirana stores.
ü Negatively affect relationship with national brands.

In the apparels category there are players like Tata groups Trent with their Westside brands, Rajan Raheja-promoted Globus Stores pvt ltd with Globus brand, who have developed a business model purely on private labels. Stores like Hypercity Retail have dominated the apparel segment majorly through its private labels. There are others like Shoppers’ Stop which believe in capping the percentage of private labels in apparel in spite of being one of the pioneers in this concept as they believe that customers need choice of at - least 4-5 exclusive brand options which may not be possible with private labels only stores. The success depends on how the store is going to position themselves and create a value perception in the minds of consumers.

As mentioned in the annual report of Shoppers Stop Ltd, the contribution of the private label has increased to 21% of sales from 19% last year and private label sales have increased by 37%. Revenue of Vishal Retail Ltd grew to 15% in FY’08 from 9.8% in FY’07. The contribution of private label is expected to increase from 15% at present to 25% by FY’10 and 50% by FY’13.
The one major hurdle in using private labeled products is the high associated development and innovation cost. Therefore, before venturing in for private label products, retailers should have a clear long term strategy and should market the product to right customer in the right manner. It is intuitively evident that retailers should enter into that product category that has high profit margin, low entry barrier to labeling, and low switching cost to consumer, which may be either monetary or affective.

Factors affecting success of private labels:
The success of private label in a category is a consequence of differentiation between manufacturers brand and their store counterpart. If consumer perceives little difference in value and quality between the two kinds of offerings they have little incentive to choose the typically more expensive offering.
Trust gap between retailers and manufacturers brand, packaging, and advertising intensity of national brands are the three most crucial factors that cause differentiation in the minds of consumer and hence affects the success of private brands.

Private Label Manufacturers:
For products to be considered for private labels, they must have a large sales potential, because retailers are not usually interested in branding low-demand items. In addition, the manufacturer must be able to assure that the product quality is as good as or better than the leading brands.
The type of manufacturing process involved is another important product-related aspect of private labeling. In general, private labels are most appropriate for products that can be manufactured on a tight schedule while maintaining high quality standards. Private label manufacturers must be able to assure their retail clients of reliable, on-time delivery. In addition, they must be flexible enough to ramp up production quickly to meet increases in demand or to change the product's formulation according to the retailer's wishes.
Price is another important component of successful private label manufacturing. The price must compare favorably to competing name brands while also enabling both the manufacturer and the retailer to make money. In general, private label sales provide high volume but tight margins, so price calculations are crucial. Also the private label goods are usually priced 20 percent or more below the market leader. In addition, the retailer generally expects to see a profit margin on private label goods that is 8 to 10 percent higher than it receives with name brands. When calculating the final sales price for private label items, manufacturers must be sure to consider any costs that are incurred especially for the private label line. These may include tailoring the product to meet retailer specifications, or designing special packaging for each retailer.
The third factor in successful private label manufacturing is a strong marketing program. The marketing program for private label goods consists of two parts: contracting with retailers to become their supplier for a certain product, and assisting the retailer in marketing that product to the final consumer.

Overall, the private label manufacturing can present tremendous opportunities for small businesses, as well as significant challenges.

How national brand’s can fight back?
A knee jerk reaction to the competition from private labels is usually to slash prices which might adversely affect the profitability and the image of the brand.
Manufacturers now need to continuously innovate product and come up with value additions regularly and at affordable cost. For example, Gillete – has always came up with new razors, new blades and has upgraded its product regularly, hence the share of private labels is very low for this category.
Manufacturers now need to fight the selective battle. They need to move out from those categories where they are not the market leaders and focus on those brands which the consumer will definitely demand from retailers.
Last but not the least, manufacturers have to respect the strength of retailers and should start partnering with them to create a win-win situation from each other.

Conclusion:
Private labels are no more considered ‘cheap’ substitutes for branded brands. That they are cheaper and do not compromises on quality attract a lot of consumers. In the last couple of years, private labels have seen unprecedented growth with the entry of retailers such as Future Group, Shopper’s Stop, Reliance Retail, and Vishal Megamart. Worldwide experience shows that as retailers become more powerful, they have increasingly focused on their own brands at the expense of manufacturer brands. Experts believe that private label brands, which occupy less than 5 per cent of the market in India now, are likely to corner 50 per cent of the market as the retail space opens up and matures. The question is not whether this will happen, but when & how?

Bharti Walmart Tie up...

(From the article published in “Marketing Mastermind”, written by Doris Rajakumari John, Team Leader, ICFAI research centre)
About Wal-Mart: (Annexure 1)
1) Largest retailer in the world – net income for $11.2 Bn on sales of $316 bn for FY 2005-06
2) Operates in more than 13 countries & serves more than 176 million customers through more than 6100 stores.
3) Established in 1962 by SamWalton.
4) Customer oriented focus – “Sundown rule” & “ten feet rule”.
5) Everyday low price the USP of wal-mart.
6) Excellent SCM – pioneered the use of barcodes & RFID in retailing.
7) Wal-mart entered different countries through various routes like acquisition, JV, partnerships etc depending on market conditions & the expertise level in working in such market.
8) Wal-mart procures more than $2bn worth of goods from India and more than $18bn from china.

Retail scene in India:A detail report will be mailed on request (akshat1604@gmail.com), subject line: “Akshat’s retail blog: request for report on Indian Retail Industry”
1) Huge potential – total retail industry size of more than $350 Bn.
2) Increasing Organized retailing share in the market
3) Market dominated by unorganized sector
4) Favorable demographics, rising income level (DINK’s) & changing mindsets of Indian consumers – giving boost to consumerism
5) FDI was allowed between 1990 – 96 but due to protest from small retailers it was again restricted in 1997.
6) According to new regulations – “foreign retailers could set up wholly-owned subsidiaries in India for the purpose of trade, but they could only sell to wholesale buyers (ie to domestic retailers) and not to end customers. By definition, the rules described a wholesale buyer as the one who held a sales tax registration number. 100% FDI was thus permitted only in franchissee and/or cash-and-carry wholesale operations”
7) In 2006, the govt announced no. of reform in FDI policy. 51% FDI was allowed in retail trade of “single brand” products

The Deal with Bharti:
1) JV announced on Nov. 27th, 2006.
2) JV will manage procurement, inventories and logistics, while stores would be set up under franchise agreement with wal-mart.
3) The deal size was not disclosed but experts say it amounts to initial investment of $100mn by two firms each and increasing it to $1.46bn
4) The JV will help wal-mart to localize. Wal-mart has to pull back from Germany & south korea mainly because it was unable to cope up with localizations.
5) Areas of synergy (exhibit II)

Challenges:
1) Competition: (Detail report on completion available on request: (akshat1604@gmail.com), subject line: “Akshat’s retail blog: request for report on Indian Retail Industry”)
2) Talent sourcing & retention – According to RAI, while the total requirement for the fron end alone is about 1.25 million, the employee base in organized sector is 1 mn. The requirement is expected to go up to 3.25mn by 2008-09.
3) Poor infrastructure – cold chaisn, warehousing & logistics a big bottleneck
4) High & rising real estate prices – as pwer PwC, the current avg lease rentals across some of the top cities range from Rs 88 per sq ft to as high as Rs 120 per sq ft a month. On an avg, lease rentals take up 7-8% of the revenue and constitute 40-45% of the non-material cost for retailers.
5) Another key challenge will be to decide the kind of format to be used in a particular region.
6) Large no. of intermediaries & loss during transportation, the current wastage level of perishable items is as high as 40%.
7) Image of wal-mart is a problem – stifling policies with suppliers, forcing them to operate on very thin margins. The strategy seems to be like – “buyer wins, customer wins and somebody has to loose”
8) Approach to farm produce procurement – “the seed to shelf approach”
9) Managing diversity of Indian consumer (more than 6000 castes and sub-castes in 28 statees, and every community has its own nuances) – walmart faced huge challenge of localization in Germany, SouthKorea & South America (exhibit IV)

The key success factors in Indian retail industry will be customer loyalty apart from other factors such as location, value-added services, price, and the ability to read shifting trends (forecasting & analytics). How the retailers position themselves and how they are perceived will also be crucial factors for success. The evolution of the Indian retail scene continues to pose challenges to the various market players and it remains to be seen how each of them will grapple with them and who will emerge a winner….my guess is that Bharti-wal-mart will be a great success story creating lot of value for Indian consumers and for the suppliers as well though in short run they may face some problems!!.

Drop Shipping

One form of retailing that has become very popular with the advancement of e-commerce is drop-shipping. The process in which a retailer markets a product, collects payment from the customer and then orders the item from a supplier, to be shipped directly that customer. The retailer's profit is the difference between the amount collected and the amount spent. No inventory is held and the retailer is not involved in the shipping.
The biggest appeal of drop shipping for the retailer is that there is no inventory to stock. This frees up cash as it allows the retailer to collect the money before purchasing the wholesale product. Because it is the supplier's responsibility to ship the merchandise to the customer, the retailer is free from any transport headaches that may occur.
One issue retailers may find in working with a drop shipper is the lack of control. Drop shipping isn't risk free and when problems arise it can become frustrating to simply play middleman. Retailers may still be faced with back-orders, returns and customer refunds. Some drop shippers assess a drop shipping fee or even a membership fee to the orders which may erode profits.

Critical Success Factors for Retailers

1) Maintaining a low cost operations.
2) Investing in appropirate & cost effective technology.
3) Focusing on customer service and loyalty.
4) Building a reliable supplyc chain and logistics systems.
5) Making adequate capital investments.
6) Effective positioning of the retail outlets.
7) Efficient human resource training & retention.
8) Creating & nurturing private lable brands.
9) Reducing shrinkage & pilferage.