You may have ever noticed that small businesses provide a higher price for the same product that large-scale businesses offer at a lower price. Have you ever wondered why this is the case? The fact is that a large business has an opportunity for economies of scale, this is when a business has lower costs due to expansion of production. In this article, we’re going to tell you exactly how big business has the advantage of economies of scale.
Economies of scale – meaning
Economies of scale are a cost advantage for large companies that can come from expanding the staff and production levels of an organization. When this happens, the productivity of the company becomes much higher, and this has the effect of lowering the cost of the product that it produces.
This happens because the cost of one or another unit begins to be distributed over a broader range of products. With this effect, companies become more competitive. Oddly enough, the logic applies here, the bigger the business, the lower the cost of their products.
What types of economies of scale exist?
Economies of scale fall into two types, and we’ll look at each in detail below:
- External economies of the scale-this effect depends solely on the external factors the company faces. So, anything that can help an organization cut costs can be considered the very external economy. Government subsidies, lower taxes, and better-qualified labor can all reduce a company’s expenses
- Internal economies of scale – respectively, this type of savings depends on the actions of the company itself. For example, a company will be able to reduce its costs through bulk purchasing, attracting investment in more modern equipment, requesting additional capital, and hiring more professional workers. Internal economies of scale are divided into several subcategories, which we will discuss below
- Technical Economies of Scale – Using modern technology is the key to achieving technical savings. Using investment to purchase modern technology will bring a significant cost advantage
- Purchasing economies of scale – Wholesale purchasing is known to be more profitable, it lowers costs and provides more resources. Large companies have a much greater ability to make bulk purchases than small businesses
- Financial economies of scale – Large businesses have a better chance of getting a better interest rate on a loan, all because they are more valuable and reliable in the eyes of lenders than small businesses due to their size
Benefits of economies of scale
The benefits of economies of scale vary quite a bit for different areas of business and the scale of companies. But if you look at it as a whole, it helps them reduce costs, be more competitive, pass on savings to the consumer, etc. Below we’ll talk in more detail about how do big businesses benefit from economies of scale:
- Reducing long-term unit costs – You don’t have to be a great economist to realize that customers will prefer a manufacturer that offers lower prices for products of similar quality. Because of lower production costs, they make the price of their products much lower, thereby increasing their value in the marketplace
- Increased profits-all for the same reasons of increased competitiveness, the company gets increased profits because it attracts more customers
- The bigger scale of business – the bigger a business becomes, the less vulnerable it is. Business becomes more stable during crises and external threats, the price of its shares becomes much higher, and they have more chances to find quick support from investors