Economies of Scale

Economies of Scale

Economies of Scale

Reduction in average cost per unit that a firm benefits from as a result of increasing scale of their business.

EOS Diagram

Types of Economy of Scale

Internal - company receives from an increase in size leading to a reduction in their average cost per unit.

External - benefits an entire industry, not just an individual business

Internal Economies of Scale

• Bulk Buying

• Financial

• Marketing

• Managerial

• Technical

Bulk Buying

• Known as purchasing an economy of scale.

• Benefit of purchasing in large volumes

• Lower selling prices to consumers or maximise profits.

Financial Economies

As a business grows, acquire more assets.

Used as security against any kind of financial borrowing - reduces risk for lender.

Prepared to offer larger businesses more money and favourable lending than smaller firms.

Technical Economies

Increase levels of production and productivity by making greater use of capital.

Automation - Less waste and greater efficiency than using human capital.

Job losses, lower staff motivation and high initial costs.

Marketing Economies

Increasing growth brings with need for additional marketing and promotional campaigns.

Costs are spread over more units of output, reducing average costs of market.

Managerial Economies

As business grows in size, so do levels of hierarchy within the business and they employ specialists.

Make fewer mistakes with lowers to costs.

External Economies of Scale

Advantages as a result of growth of the industry

Partially explain the reasons as to why firms within industry cluster geographically near one another.

Types of External EOS

• Education

• Supplier

• Infrastructure

External Diagram

Educational Economies

Local Colleges and Unis assist with developmental of skilled labour force.

Supplier Economies

Relocate themselves closer to industry as to reduce transport costs and improve responsiveness to industry demands.

Benefit from just-in-time resources.

InfraStructure Economies

Concentration of an industry and suppliers within a certain geographical area will also encourage the development of local infrastructure.

Result in improve road networks, telecommunications which lower operating costs.

Diseconomies of Scale

As a business increases scale of operations, show a rise in costs.

These increases in costs are known as diseconomies of scale and occur as a result of growing inefficiencies.

DES - Coordination

Different working practices are used and as people spread out across locations.

Difficult for management to monitor all activities and ensure objectives are being followed

As mistakes start to occur, costs of reworking and corrective action increase and leads to a rise in LRACs.

DES - Communication

As business grows, levels of hierarchy, staff and branches do

Lead to staff not understanding role

Lower levels of productivity and rise in LRACs

DES - Motivational

Result of poor coordination and communication and become demotivated.

Poor motivation leads to low productivity levels will raises costs and make firms less competitive.

Are Diseconomies Inevitable?

Common for large businesses but with careful planning, impact can be minimised.

Communication - Letters

Motivation - Team Building

Co-Ordination - Training and empowerment

Stakeholders and Economies

Customers - large cost savings, benefit from lower prices

Competitors - Hold monopoly power, increase takeover ability

Suppliers - put pressure on suppliers

Shareholder - low costs means increases profits, higher dividends

Why Do Small Firms Survive?

SMEs don’t benefit from EOS

Less efficient and have higher costs

They do have:

• Greater flexibility

• Premium prices

• Markets are small