How to Determine the Size of a Plant & Economies of Scale/Optimal return to Scal

Author Topic: How to Determine the Size of a Plant & Economies of Scale/Optimal return to Scal  (Read 630 times)

Offline Md. Alamgir Hossan

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The phrase "economies of scale" refers to the benefits experienced by many large firms because of their size. The unit costs incurred by the firms tend to fall as they expand. In some cases, they can experience lower borrowing costs or other incentives compared to competitors of a smaller size. Many small businesses strive to grow their operation to reap similar benefits. Yet, the extent to which they can grow is a decision managers have to wrestle with, including how big their plants should be.
Output Applied to Cost
One decision that many companies have to make at the start is whether to own or rent their space. For smaller firms, renting usually is a more affordable option. But larger firms can afford to own their space and even get a lower mortgage rate if they decide to. This is another example of economies of scale from which large firms benefit. For smaller firms with high rental cost, the only alternative may be to produce more output to cover the cost.
Profit-Maximizing Output
Every business wants to produce as much output as possible, since that can translate into more sales. Yet, no matter how much the owner may want to expand, he may have to limit production to a level that will maximize the business's profit at the current stage of its business. Managers can only operate at an output level where the extra revenue gained from one more unit of production matches or exceeds the extra cost involved in making that product.
Labor-Land Ratio
Another facet to company analysis is understanding the size of labor to the size of plant. Businesses that are labor-intensive have to watch how much labor they have per square feet to prevent overcrowding. Overcrowding may lead to poor quality of products, because labor roles may not be clearly defined. Also, it can lead to missing products or breakages all of which can cause the firm’s unit cost to rise. .
Technology
Technology is often a friend of business expansion. Over the long run, it can serve to reduce the unit cost of production for firms. Businesses that are capital-intensive and technologically inclined can afford to expand their output and benefit from economies of scale. They may even be able do away with any extra labor costs that may have been previously needed to produce the same amount of goods.