Unit 5 - Business Operations (Economies and Diseconomies of Scale) Flashcards
Economies of Scale
Financial advantages (falling average costs) of producing something in very large quantities.
Diseconomies of Scale
Rising average costs when a firm becomes to big.
Internal Economies of Scale
Cost benefits that an individual firm can enjoy when it expands. Reasons:
- Purchasing Economies
- Marketing Economies
- Technical Economies
- Financial Economies
- Risk-Bearing Economies
- Managerial Economies
Purchasing Economies
Suppliers offer discounts to large firms who buy raw materials and components in bulk which is cheaper per unit for the large firm.
Marketing Economies
Some marketing costs are fixed so larger firms can spread fixed costs over more units of output, therefore average cost reduces.
Technical Economies
Occur because larger plants are often more efficient than smaller ones. There can be more specialisation and more investment in machinery.
Financial Economies
Large firms can get cheaper money. They also have a wider variety of money sources.
- Limited Company can raise money by selling shares and put pressure on banks when negotiating the price of loans.
Managerial Economies
Larger firms can hire more specialist managers to handle different roles rather than one manager handling all roles, which increases efficiency.
Risk-Bearing Economies
Larger firms are more likely to have wider product ranges and sell into a wider variety of markets reducing the risk in business. Smaller firms cannot do this.
External Economies of Scale
Cost benefits that all firms in the industry can enjoy when the industry expands. Reasons:
- Skilled Labour
- Infrastructure
- Ancillary and Commercial Services
- Co-operation
Skilled Labour
If an industry is concentrated in an area, there may be a build up of skilled labour and work experience required by the industry which will lower training costs. Local colleges and schools will provide vocational courses that are required by that local industry.
Infrastructure
If particular industry dominates a region, facilities will be shaped to suit that industry’s needs.
Ancillary and Commercial Services
An established industry will encourage ancillary suppliers in that industry to set up close by.
Ancillary - connected with something but less important than the main part of it.
Cooperation
When firms in the same industry are located close to each other they are likely to cooperate so they can all gain.
Diseconomies of Scale
Average costs begin to rise because of inefficiencies in the production process - shows that if a firm continues to expand past a certain point, average costs eventually rise.
Bureaucracy
System of administration that uses a large number of departments and officials - large businesses rely on it
- if too bureaucratic, means too many resources are used in administration
- too much time spent filling in forms or writing reports
- decision making may be slow and communication channels too long
- average costs will start to rise
Labour Relations
If a firm gets too big relations between managers and workers may deteriorate - management may fail to understand workers resulting in conflicts and wasted resources.
Control and Coordination
Large businesses may be difficult to control and coordinate. May need more supervision which will raise costs.
Other Limits to Growth
Diseconomies are likely to only discourage businesses. Number of barriers that may prevent businesses from growing in size.
Lack of Finance
Businesses may not be able to raise money to buy new equipment and expand. Moneylenders may find it too risky to lend to small businesses.
Nature of the Market
Some markets are too small to sustain large organisations therefore businesses will struggle to become large.
Lack of Managerial Skills
If owners lack proper managerial skills, their business won’t be able to grow.
Lack of motivation
Some business owners may be happy running a small business - don’t want the responsibility of taking on more employees, expanding operations or borrowing more money.
