PROJECT: Economies Of Scale and Economies Of Scope

SUBJECT: Managerial Economics

GROUP MEMBERS: Madhura Donde (10) Nadeem Ahmad Khan (19) Faisal Memon (29) Nuzhat Memon (30) Farhan Roshan (39) Shazia Shaikh (49) Anju Yadav (60)

PROFESSOR: Mr. M.P. REGE

ANJUMAN-I-ISLAM’SALLANA INSTITUTE OF MANAGEMENT STUDIES

ECONOMIES OF SCALE

Economies of scale are the cost advantages that a business can exploit by expanding their scale of production in the long run.

Marshall classified the economies of large scale production into two types:

Internal Economies External Economies

INTERNAL ECONOMIES Internal economies are open to an

individual firm when its size expands Internal economies are the function of the

size of a firm

Forms Of Internal Economies

The principal types of internal economies are : Labour

Technical

Managerial

Labour Economies At the higher level of

output, less labor (i.e. fewer resources or cost) per unit of output is required than it required at the smaller scale.

Scale of production

Unit labour Req.

Technical Economies

Economies of superior technique : Use of superior techniques and capital goods

Economies of linked processes : Linking of processes in a continuous sequence

Economies of By-products : Economical use of raw materials

Managerial EconomiesWhen the size of the firm increases, the

efficiency of management usually increases.

With the increasing scale of output, grater

managerial economies are enjoyed by an expanding firm.

Marketing Economies

Economies of vertical integration

Financial economies

Economies of risk spreading

(i) Diversification of output(ii) Diversification of market

Network Economies f scale

Forms Of Internal Economies .. Contd

External Economies of Scale The lowering of a firm's costs due to external factors. Outside the control of a firm External economies of scale exist when the long-term

expansion of an industry leads to the development of ancillary services which benefit all or the majority of suppliers in the industry

External economies partially explain the tendency for firms to cluster geographically

Good Examples to quote

External economies of scale occur when a firm benefits from lower unit costs as a result of the wholeindustry growing in size.

The main types are: Transport and communication links improve Training and education becomes more

focused on the industry Other industries grow to support this industry

Do economies of scale always improve the welfare of consumers?

Standardization of products

Lack of market demand

Developing monopoly power

PRINCIPLES RELATED TO ECONOMIES OF SCALE

Principle of bulk transaction

Principle of massed(pooled) transaction

Principle of multiples

PRINCIPLE OF BULK TRANSACTION

Implication: Cost of dealing with a large batch is not greater Cost dealing with a small batch

Cost per unit becomes lesser with large quantities.

Transport container 1 Transport container 2

Example:

Volume of the container utilised 30m3

Total Cost: Construction, driver, fuel, maintenance, insurance, road tax = Rs.600 per journeyAC = Rs.20/m3

Volume utilised 160m3

Total Cost : Rs.1800 per journeyAC = Rs.11.25/m3

Principle of massed reserve: The larger the firm the greater the

advantage. Large firm has more departments hence

overall demands for services will also be large.

Example: Transport services in a large firm.

Principle of multiples: Principles of multiples is also been referred to as balancing of processes.

Machine A Machine B Machine CCapacity = 30 units per week

Capacity = 1000 units per week

Capacity = 400 units per week

The 6/10 Rule

Used to measure Economies of Scale

If we want to double the volume of the container…the material needed to make it will have to be increased by 6/10…i.e 60%

Diseconomies of Scale The disadvantages of large scale production that can

lead to increasing average costs

So what could cause costs to increase?

Causes of Diseconomies of scaleProblems of management – too many managers to

control & lots of salaries to pay!Maintaining effective communication – especially

internationally – different languagesCo-ordinating activities – often across the globe!De-motivation and alienation of staff Divorce of ownership and control – do staff/managers

care about the company?

Economies of Scope

What are economies of scope?

Measuring economies of scope

Real world examples

Economies of Scope

This is an extension of the concept of economies of scale to the Multi Product Case

If a single firm can jointly produce goods X and Y more economically than any combination of firms could produce them separately, then the production of X and Y is characterized by Economies Of Scope.

ModernisationDiversificationi)Relatedii)Unrelated

Expansion

Long term growth and

development of business

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21

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Economies of scope can be measured by as follows:

Where C(Q1,Q2) is the cost of jointly producing goods 1 and 2 in the respective quantities; C(Q1) is is the cost of producing good 1 alone, and similarly for C(Q2).

Example: Let C(Q1) = $12 million; C(Q2) = $8 million; and C(Q1,Q2) = $17 million. Thus:

15.20$3$

8$12$17$8$12$

SC

Thus joint production of goods 1 and 2 would result in a 15 percent reduction in total costs

Economies of scope arise from “Complementaries” in

the production or distribution of distinct goods or services

Economies of scope between cable TV and high speed internet service.

Production of timber and particle board.

Corn and ethanol production.

Production of beef and hides.

Power generation and distribution

Real world examples

Joint cargo and passenger transportation in airlines reduce excess capacity.

Global wholesale distribution of cheese, salad dressing, and

cigarettes (example: Phillip-Morris-Kraft).

Hotel Shalimar with various food items from same Kitchen.

Proctor and Gamble (P&G) with products from razors to toothpaste

Real world examples

Owns 250 different product ranges

Proctor & Gamble

AMUL – The Taste Of India

Economies of Scale v/s Economies of Scope

Definition

Benefits

Efficiency

Thank You