Unit 1- Topic 5: Economies and Diseconomies of scale

Question 1

What are Economies of Scale

Answer 1

Savings in costs that can accrue to the business are associated with a proportional increase in production levels.
(Business grows and with growth comes falling average unit cost)

Question 2

Internal Economies of Scale… achieved as a result of a business increasing in size.
2 Examples:

Answer 2

Purchasing - larger businesses purchase supplies in bulk, this means the business has greater purchasing power and can therefore negotiate better prices, e.g., obtaining a discounted purchase rate. This increases the business’s profitability.

Managerial - larger businesses employ functional specialists to complete specific tasks, whereas small firms employ one person to fulfill many roles. This means larger businesses can employ highly qualified and trained staff. This means these specialist workers will be more efficient and experts in their field, seen as better assets to the business.

Question 3

External Economies of Scale… achieved as a result of growth relating to the size of the entire industry.
2 Examples:

Answer 3

Integrated infrastructure - industries set up in areas with good transportation facilities, e.g., rail and air, modern communication systems, and good education.

Support businesses - manufacturing and service industries located in areas where they can receive local help and support, e.g., the ‘square mile’ in London for financial services.

Question 4

What are Diseconomies of Scale?

Answer 4

A business reaches a point where it gets too big and passes its optimum size. This means a business finds it difficult to manage its resources, resulting in an increase in the average unit cost of production.

Question 5

Internal Diseconomies of Scale
2 Examples:

Answer 5

Management problems - in large organisations where senior managers become too remote and far removed from the ordinary employee. This can create an atmosphere of poor industrial relations.

Motivation problems - large organisations tend to be impersonal, this means workers feel isolated and undervalued. This means workers struggle to identify their clear career progression path, these factors cause demotivated staff, lessening productivity levels.

Question 6

External Economies of Scale
2 Examples:

Answer 6

Increased Competition - as a business expands they are more likely to encounter competitors, this can prove difficult, especially if a competitor is already well established.

Localisation - if a business expands globally it must accommodate the language, cultural, political, and legal differences of a foreign market. This means facing additional expansion costs.

Question 7

Investment
(The purchase of capital goods or the expenditure of a firm that is likely to yield a return in the future)

Answer 7

-Benefits-
Productivity increases: new equipment can lead to improvements in long-term productivity
Improved quality: customers benefit from higher quality products/services

-Drawbacks-
Cost: investment in new projects may overrun due to lack of control which may increase financial risk, e.g., the original budget may be exceeded in attempts to make the investment successful
Motivation: staff may be demotivated as a result of new equipment or outcomes of a new project.

Question 8

Productivity
(Higher levels of productivity in a business, leads to a more effective competitive nature within the market).

2 Examples:

Answer 8

Cost savings: referring to cheaper products/services to its customers, this yields competitive advantage and growth in the market
Staff training: staff members learn more effective methods of completing their work.

Question 9

Implications of Growth
(Aimed at ensuring business expansion, measured through sales, revenue profits, and/or total assets)

2 Examples:

Answer 9

Innovation: relating to products or processes require to facilitate growth, e.g., businesses’ ability to introduce innovation.

Attitude to risk: attitudes employed by managers to achieve business growth, e.g., managers may be risk-averse or risk-takers (impacting business growth).

Question 10

Implications of growth

Positives and negatives…

Answer 10

Positive implications of growth:

• Growth may motivate staff to achieve professional and personal goals
• Business owners (shareholders) might have set growth rate targets, this increases productivity, plus secures a higher rate of return on their investments.

Negative implications of growth:

• Can the shortages of raw materials, if orders are not placed in time to meet growth demands
• Business relationships with the existing customer base may suffer as staff is expected to meet the additional needs of new customers, particularly if there is no corresponding increase in resources to support this.