Difference between Economies of Scale and Economies of Scope
Economies of scale and economies of scope are two important concepts that explain how companies can reduce costs and increase efficiency. While both concepts involve cost savings strategy.
Shruti Dutta23 Jun, 2024
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Economies of scale and economies of scope are both strategies businesses use to reduce costs and improve efficiency, but they operate differently. Economies of scale refer to the cost advantages that arise from increasing the scale of production, leading to lower per-unit costs as production volume rises. This is achieved through spreading fixed costs over a larger output. On the other hand, economies of scope involve cost savings achieved when a business diversifies its product range, utilizing the same resources across multiple products.
This allows for efficiencies in production, distribution, and marketing. Understanding these concepts helps businesses strategies to optimise their operations and gain market competitive advantages by expanding production scale or diversifying product offerings.What is Economies of Scale?
Economies of scale refer to the cost advantage that a company achieves as it increases its output of goods or services. There is an inverse relationship between the volume of production and the fixed costs per unit. As production volume rises, the cost per unit decreases. Economies of scale occur when a company reduces its per-unit costs by expanding its production capacity. As the business grows and scales up its operations, it can lower the cost of producing each unit of goods. Example : A common example of economies of scale can be seen in a manufacturing plant. Suppose a factory produces 1,000 units of a product per month, with a fixed cost of ₹1,00,000 for the factory rent, equipment, and salaries. This results in a fixed cost of ₹100 per unit. If the factory increases production to 10,000 units per month, the fixed cost remains ₹1,00,000, but now it is spread over more units, reducing the fixed cost per unit to ₹10. This significant decrease in cost per unit due to higher production volume demonstrates economies of scale.Economies of Scale Characteristics
Economies of scale are marked by several distinctive characteristics that contribute to cost efficiencies and competitive advantages for businesses:- Cost Reduction : Economies of scale allow businesses to distribute fixed costs, such as overhead expenses and equipment, across a larger production output, reducing the cost per unit of production.
- Production Efficiency : Increased production volumes enable businesses to optimise their operations through specialised equipment, bulk purchasing advantages, and more efficient processes, enhancing overall productivity.
- Competitive Advantage : Businesses that achieve economies of scale can lower prices, expand their market share, and gain a competitive edge over smaller competitors.
What is Economies of Scope?
Economies of scope occur when a company saves money by diversifying its product offerings. A business can lower the cost per production unit by altering its operations to produce various products using the same set of resources. It is cheaper for two products to share the same resource inputs when possible than for each product to have separate inputs. Example : A classic example of economies of scope can be seen in a dairy farm. The farm produces milk, which is its primary product. However, by diversifying its operations, the farm can produce cheese, yoghurt, and butter. All these products use the same basic resource: milk. By leveraging the existing resources and infrastructure (such as the cows, milking equipment, and dairy processing facilities), the farm can produce multiple products at a lower cost per unit than if it produced each product independently. In both cases, the company benefits from economies of scope by reducing costs and increasing efficiency through diversified production using shared resources.Economies of Scope Characteristics
Economies of scope occur when a company saves money by producing various products using the same resources. This concept is distinct from economies of scale, which focus on cost savings from increased production volume. Here are the key characteristics of economies of scope:- Resource Sharing : Companies achieve economies of scope by sharing resources such as raw materials, labour, technology, and facilities across multiple products. This reduces the need for separate resources for each product.
- Diversification : Diversifying the product line creates economies of scope. Companies can leverage existing capabilities and infrastructure to lower overall costs by producing different products.
- Cost Savings : The primary benefit of economies of scope is cost savings. Due to shared costs, producing multiple products together is cheaper than producing each independently.
- Increased Efficiency : Companies can utilise their resources more efficiently by spreading them across various products. This leads to better utilisation of assets and reduces waste.
- Competitive Advantage : Firms that achieve economies of scope can offer a broader range of products at lower costs, providing a competitive edge in the market. This can lead to increased market share and customer loyalty.
- Difference between Economies of Scale and Economies of Scope
| Aspect | Economies of Scale | Economies of Scope |
| Definition | Cost advantages from increasing production volume. | Cost savings from diversifying and combining different activities or products. |
| Focus | Reducing average costs per unit as production volume rises. | Leveraging shared resources and capabilities across multiple products or services. |
| Nature | Expanding production within a single product or service line. | Integrating various activities to benefit from synergies across different product lines. |
| Example | Manufacturing more units of the same product to lower average costs. | Using shared research, development, and manufacturing capabilities for multiple products. |
| Aspect | Bulk Production | Variety Production |
| Cost Reduction | Lowers the cost of a single product. | Lowers the cost by producing various products. |
| Deals With | Producing goods in large quantities. | Producing a variety of products in the same process. |
| Reduction Occurs Due To | Large-scale production of a single item. | Producing multiple types of products simultaneously. |
| Approach | Traditional approach. | A relatively new approach. |
| Resource Utilization | Utilises more resources. | Utilizes fewer resources. |
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Difference between Economies of Scale and Economies of Scope FAQs
What are Examples of Economies of Scope?
An example of economies of scope is a technology company that uses the same research and development team and manufacturing facilities to produce smartphones and tablets. By sharing these resources, the company reduces costs for both product lines.
Which Approach is Better: Economies of Scale or Economies of Scope?
The effectiveness of economies of scale versus economies of scope depends on the specific business strategy and market conditions. Some businesses may benefit more from expanding production volume (economies of scale), while others may find greater advantages in diversifying their product offerings (economies of scope).
How do Economies of Scale and Economies of Scope Impact Business Strategy?
Both economies of scale and scope play critical roles in shaping business strategy. They help businesses optimise production efficiency, reduce costs, improve competitiveness, and enhance overall profitability in their respective markets.
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