Most businesses want to grow, and scale up their operations. This enables them to enjoy the cost savings that arise as a result of increased productivity.
“Economies of scale” is a simple concept that can be demonstrated through an example. Assume you are a small business owner and are considering printing a marketing brochure. The printer quotes a price of N5,000 for 500 brochures, and N10,000 for 2,500 copies. While 500 brochures will cost you N10 per brochure, 2,500 brochures will only cost you N4 per brochure. In this case, the printer is passing on part of the cost advantage of printing a larger number of brochures to you. This cost advantage arises because the printer has the same initial set-up cost regardless of whether the number of brochures printed is 500 or 2,500. Once these costs are covered, there is only a marginal extra cost for printing each additional brochure.
An organisation that increases the scale of its operations enjoys cost savings as a result of the following:
- Division of Labor
- Lower input costs arising from large volume purchases
- Efficiency and Time Management
However, there is a finite upper limit to how large an organization can grow to achieve economies of scale. After reaching a certain size, it becomes increasingly expensive to manage a gigantic organization for a number of reasons, including its complexity, bureaucratic nature and operating inefficiencies. This undesirable phenomenon is referred to as “diseconomies of scale”.
They could stem from inefficient managerial or labor policies, over-hiring or deteriorating transportation networks. Furthermore, as a company’s scope increases, it may have to distribute its goods and services in progressively more dispersed areas. This can actually increase average costs resulting in diseconomies of scale.
Building a solid operation is all about the three P’s: Process, people and product.