Economies of scale is the term used in the context of economics. Economies of scale in simple words refer to the cost advantages that companies can have as they increase their production scale. When a company increases its production then it can spread its fixed costs such as overhead costs, rent, fixed salaries, insurance, and other such fixed costs across a larger number of units thus resulting in lower cost per unit, which can translate into higher profit margins for the company. Given below are some of the important features of economies of scale –
Characteristics of Economies of Scale
Increase in the Efficiency
The first and foremost feature of economies of scale is that it results in increased efficiency of the business of the company. Increased efficiency basically refers to the ability of the company to produce more output with the same or fewer resources. In the case of the economics of scale when the company increased production then since the fixed cost of the company is constant it will result in a lower cost per unit of production due to the distribution of fixed cost over a larger number of units and hence the company will be more efficient.
Decreasing Average Costs
The average cost is a mix of fixed cost and variable cost and when the company starts producing more units its variable cost will increase in proportion to the increased production but its fixed cost per unit will decrease due to the spreading of fixed cost over a large number of units and thus the average cost of per unit of production will decline. Hence for example, if suppose the company has a total fixed cost of $50000 and a variable cost per unit is $10 then if the company produces 1000 units then its total cost will be $60000 and the average cost will be $60 per unit but if the company increase its production to 2000 units than its total cost will be $70000 and the average cost per unit will come down to $35.
Technology Advancement
In the case of economies of scale, technology has a key role to play because with the advancement of technology companies find new and cheaper ways to produce goods resulting in increased efficiency and reduce costs, allowing the company to achieve economies of scale and gain a competitive advantage in the marketplace over its competitors operating in the same industry. In simple words when it comes to economies of scale technology acts like a booster dose as companies can save a lot of costs if it switches to new technology while manufacturing goods.
Acts as Barrier to Entry
Barriers to entry refer to factors that make it difficult for new firms or companies to enter a market and compete with established firms in the same industry. When established companies achieve economies of scale, they can produce their products at a lower cost per unit than new entrants. This gives established companies a cost advantage over new entrants thus making it difficult for new firms to compete with established companies.
Helps the Company in other Departments
Another important feature of the economics of scale is that it helps the company in other departments also, hence for example the money saved due to economics of scale can be used by the company towards research and development of new products or money saved due to economies of scale can be used towards marketing mix and so on. In simple words economies of scale provides a helping hand to other departments of the company which can create a lot of value in the long term as far as the company is concerned.
As one can see from the above that economies of scale have some unique characteristics and that is why companies all over the world strive to achieve economies of scale so that company stays ahead of their competitors and be successful in the long run.