#Business Vocabulary ~ #Economies of Scope and Scale

27 May

As always, this lesson is not intended to be professional advice. This is simply lesson material for ESL students in Business, Economics, and Finance classes. Posted here for their use or for helping other students.

Unlike Short-Term (短期) Planning, Long-Term (长期) operates on different goals (目标), strategies (战略), and analyses (分析).

Two common goals are very important: Economies of Scale and Economies of Scope.

- Output (产量) ~ The products you create. Increasing Output = Increasing the number of Products
- Input (输入) ~ The raw material, tools, and resources used to create the output.
  - For Example, 1 Cake (output) may require inputs like labor (劳动), flour (面粉), water (水), sugar (糖), eggs (蛋), a bowl (搅拌碗), mixer (手动搅拌器), an oven (烤箱), etc.
- In Business, there are two kinds of inputs.
  - Fixed Inputs (固定输入) are inputs that do not change (更改) in number. (You want to make more products, but you have no time to hire more workers. We say the workers are a fixed input — you cannot increase or decrease the number).
    - Even if you don’t use the resource (资源), it usually still costs you the same money. For Example: I will spend RMB65,000 for the car regardless of whether I drive it 10000km or 50000km. The cost is the same, no matter how much I use it. Since the cost doesn’t change, we say it is a fixed cost (固定成本)!
  - Variable Inputs (可变输入) can change. For example, if I have more time, I can hire more workers. Or I could fire some workers! So labor (劳动) becomes a variable input. Because I could actually increase or decrease the number of workers, I can also increase or decrease the cost of the workers. So the labor cost is a variable cost (可变成本)

Goal #1 ~ Economies of Scale (规模经济)

Economies of Scale (规模经济) means that you choose to increase (增加) the total number of products you make in order to decrease (减少) the Fixed Cost for each Product (产品固定成本).
- “Quantity” is INVERSELY (逆) related to Fixed Cost per Product. This means that when the Quantity (# of Products) increases, the Fixed Cost for each Product will decrease.
  - Example:
    - If the equipment is $10,000 (Fixed Cost) and I make 10 products, the Fixed Cost per product is $1,000.
    - If the equipment is $10,000 (Fixed Cost) and I make 20 products, the Fixed Cost per product is $50.
    - The more products I make, the lower the fixed cost is!
This means that it is CHEAPER to actually make more products! (Economies of Scale— Bigger is Cheaper).
**According to the Law of Diminishing Returns (退货法) and Marginal Revenue (边际收益), producing more products is eventually more expensive (maybe you have to repair the machine more or buy a new machine or hire more workers to use the machine). That moment when it stops being cost-efficient (成本效益) is called “Diseconomies of Scale” (规模不经济)

Goal #2 ~ Economies of Scope (范围经济)

Economies of Scope (范围经济) is the theory that one company producing two products may have a lower AVERAGE cost than if two companies produced those products.

**I modified this part because some students were still confused 🙂 I hope this clears some of the confusion up! I originally just focused on economies of scope via inputs (because that is what we were discussing in class), but it is much bigger in reality.

Economies of Scope (范围经济) is the theory that one company producing two products may have a lower AVERAGE cost than if two companies produced those products separately. For example, you could have one company making milk and one company making cheese. In that case, you would have to have two factories (one for each), both companies would need cows, both companies would need the milking tools, both companies would need to pay to train employees to use the tools, two shops, two brands, two advertisements, etc. But if ONE company makes both milk and cheese, the cost might be lower. The company can use the same tools, resources, and trained labor to do both jobs at a lower cost than two companies trying to do it separately!
This means that it is CHEAPER to actually make more varieties of products! (Economies of Scale— Diverse (多种) is Cheaper).

There are many different ways to accomplish this. You can try making different products entirely. For example, Apple makes both iPads and Mac computers. Maybe you merge with another company and share resources together. For example, a car company could merge with a truck company to start selling different products.

Another way you can do this is by changing your production system. Instead of buying your raw materials from many different companies, you can use the idea of “economies of scope” and simply create the inputs yourself.

Toyota (丰田)Toyota is famous for implementing 实施 a system (TPS – Toyota Production System) using a form of economies of scope. According to the company website, they are devoted to “the complete elimination of all waste. . . Imbuing all aspects of product in pursuit of the most efficient methods.. . . Making the vehicles ordered by customers in the quickest and most efficient way, in order to deliver the vehicles as quickly as possible.” From raw material to the end product, they own and manage it all. “彻底消除一切浪费。寻找有效的方法. 以最快最有效的方式使客户订购车辆。以便尽快交付车辆。从原材料到最终产品，他们创造了一切

Two theories make it successful:

Jidoka — All machines are created to find problems and immediately stop the machine on their own until the problem is fixed. This way, Toyota makes sure of the quality and does not have to worry about returns (产品退货) or the cost of selling bad quality.This does not always work. Toyota had a problem with their brakes (刹车) a few years ago. The machine did not see the problem. But USUALLY, this system lets them find problems faster and make sure the quality of their cars is good.
Just-In-Time—Toyota machines never have surplus (剩余) of inventory(库存). So they do not have products in the storage (存储) losing money as they depreciate 贬值 (get old). They use everything they create. They only make “what is needed, when it is needed, and in the amount needed.” They are consistently stocked with exactly what is needed for the next product.

They could (if they wanted) buy all of their materials from other companies in the market. However, they believe this would raise the average cost of their cars. Instead, they produce their own materials (create more than just cars – diversify) and lower the average cost of all their products. Of benefit is the fact that if a company is producing their own raw materials, not only can they sell the final product, they can sell the raw materials as well.