What is scale economies?
The basic idea behind scale economies is that bigger companies have some form of an advantage over smaller ones. The most common way this happens is that as production volume goes up, the costs per unit produced goes down. As a result, scale players are able to price lower than their smaller competitors.
Seems simple, right? Well, not so fast.
In reality, the way scale economies show up tend to be rich and varied.
In some — rather obvious — cases, you get lower costs by buying in bulk. Larger players get discounts and better consideration from suppliers compared to smaller purchasers. They may also be able to make purchases that smaller players are unable to make. Hershey’s, for instance, enjoys economies of scale when purchasing cocoa compared to a boutique chocolate manufacturer. They may also cut deals with large farmer cooperatives — deals that are simply not available to smaller competitors.
In many other cases, however, the lower costs come from amortisation of some fixed cost. For instance, if a company builds a large factory, the high fixed costs that come from that initial capital expenditure will be spread out over the high volume of product that factory then produces.
Another form of scale economies are so-called ‘learning economies’ — that is, the more you produce, the better you get at producing the thing, leading to continued cost reductions.
And finally, there is something known as ‘growth economies’ — where the scale player gains some advantage due to the market position it occupies, not because of the lower unit costs it enjoys.
As you read the various cases we’ve compiled for this concept, we expect your thinking around scale economies to change. If we succeed, you should begin to think “okay, scale economies mostly work like this, but sometimes it looks like that, and other times it looks like that.”
We’re keeping this section deliberately short, so that you may embrace each case in all of its complexity and richness. Let’s get started.