Economies of scale are the cost advantages that a business obtains as sales increase and operations improve, resulting in a decrease in average costs per unit.
Primary Implication
Price is determined by the amount the buyer is willing to pay and the amount the seller is willing to accept. It is the foundation of a commercial transaction that large businesses have mastered. If you choose to compete on price against a national competitor’s economies of scale, you have set yourself up for failure.
Either identify through the 7-P Framework how you can compete against a business with the economies of scale advantage, or you will go out of business.
Overview
Economies of Scale: A Competitive Advantage
What are Economies of Scale?
Economies of scale happen when a business grows and becomes more efficient. This means the cost of producing each item decreases as the business sells more. Think of it like this: buying in bulk is cheaper per item than buying just a few.
Why Do Economies of Scale Matter?
- Lower Costs: Businesses with economies of scale can offer lower prices and still make a profit.
- Competitive Edge: This gives them a big advantage over smaller businesses.
How Larger Businesses Benefit
- Specialized Labor: They can afford to hire experts and use advanced technology to increase production.
- Bulk Discounts: They get better deals from suppliers because they buy in larger quantities.
- Lower Overhead: Costs like rent and utilities are spread out over more products, making each item cheaper to produce.
Good News for Small Businesses
Larger businesses don’t always have the advantage. Here’s why:
- Diseconomies of Scale: Sometimes, getting bigger can actually make things more expensive. Specialized equipment and complex processes can be costly to change.
- Outsourcing: Small businesses can level the playing field by outsourcing tasks like accounting and marketing.
How Small Businesses Can Compete Against Big Business
- Focus on Value: Offer unique products or services that solve specific customer problems.
- Avoid Price Wars: Don’t try to compete on price alone. Highlight the quality and benefits of your offerings.
- Strategic Planning: Use tools like the 7-P Framework to analyze your business and identify areas for improvement.
Key Takeaways
- Economies of scale give larger businesses a cost advantage.
- Small businesses can compete by focusing on value, specialization, and efficient operations.
- Understanding economies of scale is crucial for any business, regardless of size.