Large firms with economies of scale normally have lower unit costs than small firms because these fixed costs are spread more thinly over higher sales volumes. For example, take a $1 million advertising campaign. If just two items are sold, the unit cost of promotion is half a million pounds. If a million items are sold, the unit cost falls to just one pound. Many economies of scale are about spreading fixed costs more thinly.
Economies of scale are more or less cost advantages that can occur when a company increases their scale of production and becomes more efficient, resulting in a decreased cost-per-unit. This is because the cost of production (including fixed and variable costs) is spread over more units of production. Economies of scale provide larger companies with a competitive advantage over smaller ones, because the larger the business, the lower its per-unit costs.
In the wholesaling industry, economies of scale can be realized by a firm at any stage of the production process. In this case, production refers to the economic concept of production and involves all activities related to the commodity, not involving the final buyer.
Moreover, a business can decide to implement economies of scale in its marketing division by hiring a large number of marketing professionals. A business can also adopt the same in its input sourcing division by moving from human labour to machine labour.
However, small firms in the wholesaling industry can compete either by operating in service industries such as movement of goods where there are few opportunities for economies of scale, or they offer high priced, premium, niche products. Customers are eager to pay more for exclusive goods made by small businesses.
Economies of scale rather entails that large organisations can often produce items at a lower unit cost than their smaller rivals – a source of competitive advantage. Economies of scale also result in a fall in average variable costs (average non-fixed costs) with an increase in output.
This is brought about by operational efficiencies and synergies as a result of an increase in the scale of production. Once a firm’s unit costs begin to rise, it begins to experience diseconomies of scale, and this can be caused by Ineffective communication. Coordinating large numbers of staff becomes a challenge.
Also these big businesses can develop many levels of hierarchy which slow down communication or even lead to miscommunication. Staff can also feel remote and unappreciated in a large organisation. When staff productivity begins to fall, unit costs begin to rise.
Various Ways Large Firms with Economies of Scale Affect the Wholesaling industry
Larger-sized companies usually have buying power and resource capacity advantages over smaller businesses. Note that it doesn’t mean that a small business will not experience economies of scale. As a small business expands its operations, economies of scale will eventually occur.
However, when expansion occurs, the average cost of producing additional units decreases up to a certain point. This point is the lowest possible average cost of production. Here are few ways these large companies affect the wholesaling industry.
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Economies of scale tend to happen when a firm produces enough revenue to hire specialized labour. As companies expand, average costs decrease with specialized labour and non-specialized labour working at different pay rates. Therefore, instead of one or two people handling diverse tasks, workers focus on a specific function. The idea is that specialized workers are more efficient and knowledgeable about an area or a task.
For example, some workers will have to focus on sales, others on bookkeeping. An employee with specialized knowledge and training may save time and effort while reducing errors. This in turn saves the company money by reducing unnecessary expenses and potential lost revenue.
As a business grows in size, it solidifies and becomes less vulnerable to external threats, such as hostile takeover bids. This is one of the key ways economies of scale affects the Wholesaling industry as it has a positive effect on a company’s share price, as well as their ability to raise new financing.
Industry cooperation tends to occur within a small group of similar businesses. Independent grocery stores may decide to products through a co-op wholesale organization, for example. This practice helps individual stores gain collective buying power and reduce average unit costs.
Economies of scale result since each business owner reduces average unit costs while maintaining or increasing revenue. An independent grocery store that purchases supplies from a single wholesale vendor might pay $5.00 per unit. Through a co-op organization, the same supplies might only cost $3.50 per unit.
Fixed costs are referred to as expenses that occur even when production is at zero. Regardless of how many units are produced, fixed costs stay the same. As production increases, average fixed costs or costs per unit go down. Let’s imagine your business has monthly fixed costs of $10,000.
If the company produces 100 units in one month, average fixed costs are $100. The next month, the company produces 500 units. Average fixed costs are now only $20. Have it in mind that companies with larger amounts of fixed costs instead of variable costs benefit the most from increased levels of production, because total variable costs – like the cost of components for a product – increase or decrease in step with production volumes.
Poor communication and Business Practices
Ineffective communication, wherein it becomes more difficult to coordinate a large workforce as a company grows, is one of the major factors behind diseconomies of Scale especially in the wholesale market. As a business grows, it becomes increasingly difficult to monitor the productivity and quality of thousands of employees, leading to inefficient production processes. Behaviour that would have gone unpunished in a smaller firm is more likely to be seen as a threat as the business increases in size.
While there are some disadvantages associated with economies of scale, these can be averted through a greater focus on management and communication. And while the benefits of economies of scale can be leveraged more effectively by large companies, even start-ups and small businesses can take advantage.
In addition, economies of scale may not always result in lower prices, as dominant firms in the wholesale market may simply form a monopoly and enforce higher prices. It is also worth remembering that the environmental consequences of mass production can be significant, from pollution to e-waste.