Total and Average Costs As a business increases output  total costs will increase More output  more resources needed But what should happen to average (unit) costs?

Consider ? How can IKEA profitably sell flat-pack furniture at what seem impossibly low prices?

The answer is – economies of scale. Scale economies have brought down the unit costs of production and have fell through to lower prices for consumers. Economies of scale are a key advantage for a business that is able to grow. Most firms find that, as their production output increases, they can achieve lower costs per unit.

Economies of scale are the cost advantages that a business can exploit by expanding their scale of production.  The effect of economies of scale is to reduce the average (unit) costs of production.

What Economies of Scale does IKEA have over a small carpenter?

Economies of Scale, Tesco and a small shop? Purchasing economies: Occur when businesses are purchasing large enough quantities to be charged a lower price per unit Unit supplier costs are reduced or the buyer has market power – Bulk buying

  Big business can invest in huge machinery that makes use of large scale technology.

Internal Economies of Scale Technical economies when larger more efficient capital items can be used because their high costs can be spread across a larger quantity of output For example: Car manufacturing machinery State of the art software on computers in head office

Internal Economies of Scale Marketing economies When high cost advertising and promotion activities are feasible. The costs are covered if they can secure high and rising sales For example: Franchises – McD do TV adverts for whole organisation – individual franchisee’s could not afford this

Internal Economies of Scale Managerial economies Become possible when output is high enough to justify hiring specialists to perform specific management tasks For example: Employing specialist accountants, HR and marketing experts

More economies Financial economies Are possible when lenders offer big businesses lower interest rates because they look less risky.

More economies Risk Bearing economies: When a business has a single product, a single market or single new product, it is highly vulnerable if that product fails. Businesses with many products and/or markets are diversified and can spread risk by offsetting losses in one area against profits elsewhere.

External Economies These are reductions in unit costs that occur as long- run output rises and are shared by a whole industry rather than limited to a single firm External economies are very common when similar firms are concentrated in one location. Car component suppliers are found around concentrations of car assembly plants Farmers in rural areas may joint fund expensive harvest equipment

Diseconomies of scale Increases unit cost that occur as a business grows larger, often associated with communications issues or costs of coordination. Imagine you add more people to be involved in decision making processes, it may eventually become harder to share information effectively. Beyond a certain point, increasing size will bring disadvantages rather than advantages and push average costs up.

Minimum efficient scale This is the level of output at which average or unit costs can be minimised Economies of scale will push average cost down as output increases until diseconomies outweigh any further possible economies

Corporate culture Refers to shared values, attitudes, standards and beliefs that characterise members of an organisation and define its nature. As a business grows it can be difficult to ensure all buy into this, especially through inorganic growth. Why is this?