Economics
Economies of Scope
Economies of scope refer to the cost advantages that arise when a firm produces a variety of products or services using the same resources. This concept allows companies to reduce their average costs by sharing resources, such as technology, distribution channels, and marketing efforts, across different product lines. By leveraging economies of scope, firms can enhance their overall efficiency and competitiveness in the market.
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8 Key excerpts on "Economies of Scope"
eBook - PDFSurfing the Global Tide
Automotive Giants and How to Survive Them
- M. Wynn-Williams(Author)
- 2009(Publication Date)
- Palgrave Macmillan(Publisher)
If the technical economies of scale are very large they become a dom- inant feature of the firm and give the impression that this is the source of the firm’s competitive advantage. However, this may mask a lack of econ- omies of scale elsewhere, even diseconomies, particularly in a multiplant firm where a complex bureaucracy may result in diseconomies of scale in management. 25 Fundamentals of scale A role for Economies of Scope and integration Economies of Scope are often cited as an additional advantage, usually exploited by large firms that have a wide range of capabilities and resources to draw on. These Economies of Scope are available when the production system is established and a more intensive approach is made to its usage. In order to exploit the opportunity the minimized costs of production for two goods would have to be less when the system is shared than if the goods were produced separately (Panzar and Willig 1981). Typical exam- ples include the production of mutton and wool, or a delivery person who also reports on neighborhood crime. The essence of Economies of Scope is that it accesses additional capacity derived from an existing production system with the result that total output is improved. However, the actual advantage can be difficult to quantify and may in fact represent increased use of existing spare capacity, rather than the opportunity to exploit additional capacity. Since it is derived from an existing production system it is also likely to have only a marginal impact on raising total production levels. For example, there are no Economies of Scope in a food delivery firm diversifying into mail delivery since it is only possible to do this if the company is failing to entirely fill its vehicles with food deliveries in the first place. For the increase in scope to bring economies there must be spare capacity available which cannot be used for the existing product.
- Arne Hallam(Author)
- 2019(Publication Date)
- CRC Press(Publisher)
While economies of scale or size explain cost changes that occur as output expands, these may also be changes in cost due to the product mix chosen. If there are cost advantages from the production of several products simultaneously as contrasted with their production in separate firms or processes, then Economies of Scope are said to occur. A formal definition requires the specification of several subsets of M, the set of all products. LetS be a subset of M and let P be a non-trivial partition of S with an element of the partition denoted I,. The union of the I, is equal to the set S and the sets 4 and I, are nonintersecting for i -:~: j. Then Economies of Scope are said to exist' if k E G(YL·} > C(ys) i=1 J (48) For example, if M = {1,2} and P = [{1},{2}], then Economies of Scope exist when: • (49) The degree of scope economies provides a measure of this cost savings and is given by: (SO) 167 Overall returns to .scale are related to returns to scope and product specific returns to scale through the identity: aL 'VL + (1-al) 'I'M -L 'I'm.. 1-scL (51) There are two major sources of Economies of Scope. The most obvious is joint production which results from the presence of public inputs. Public inputs are those which can be used by one production process without reducing the amount available for other processes. An example might be the use of ponds for fish culture and providing watering for grazing animals. While exact public inputs are rare, quasi-public inputs are very common. Quasi-public inputs are those which can be shared by two production processes without complete congestion. The use of the same planting equipment for com and soybeans is a typical example since the demands do not typically occur at the same time. Many allocated fixed inputs in agriculture may lead to Economies of Scope. In agribusiness firms, Economies of Scope may exist in sales and advertising since sales efforts can promote more than one product or line.
eBook - PDFStrategic Management
Concepts and Cases
- Jeffrey H. Dyer, Paul C. Godfrey, Robert J. Jensen, David J. Bryce(Authors)
- 2020(Publication Date)
- Wiley(Publisher)
12 For more on Economies of Scope see J. C. Panzar and R. D. Willig, “Economies of Scale in Multi-Output Production,” Quarterly Journal of Economics 91 (3) (1977): 481–493; “Economies of Scope,” American Economic Review 71 (2) (1981): 268–272; D. J. Teece, “Economies of Scope and the Scope of the Enterprise,” Journal of Economic Behavior & Organization 1 (3) (1980): 223. 13 L. E. Yelle, “The Learning Curve: Historical Review and Comprehen- sive Survey,” Decision Sciences 10 (1979): 302–328. 14 M. Gottfredsen and S. Shaubert, The Breakthrough Imperative (New York: HarperCollins, 2008). 15 Perspectives on Experience (Boston: Boston Consulting Group, 1968). 16 Ibid.; also see G. Hall and S. Howell, “The Experience Curve from the Economist’s Perspective,” Strategic Management Journal 6 (1985): 197–212. 17 G. S. Hansen and B. Wernerfelt, “Determinants of Firm Performance: The Relative Importance of Economic and Organizational Factors,” Strategic Management Journal 10 (5) (1989). 18 P. W. Farris and M. J. Moore, The Profit Impact of Marketing Strategy Project: Retrospect and Prospects (Cambridge, England: Cambridge University Press, 2004); R. D. Buzzell and B. T. Gale, The PIMS Princi- ples: Linking Strategy to Performance (New York: Free Press, 1987). 19 R. P. Rumelt and R. Wensley, “In Search of the Market Share Effect,” Proceedings of the Academy of Management (1981): 2–6. 20 See Air Asia, “Fourth Quarter 2010 Results,” (February 24, 2011), http://www.airasia.com/iwov-resources/my/common/pdf/AirAsia/IR /AA_4Q10_Analyst_Presentation.pdf. 21 “How Jack Welch Runs GE,” http://www.businessweek.com/1998/23 /b3581001.htm. 22 See V. Courtenay, “Hyundai Aiming High on Several Fronts,” WardsAuto (March 20, 2013), http://wardsauto.com/management-amp -strategy/hyundai-aiming-high-several-fronts-2013. 23 J. H. Dyer, “Dedicated Assets: Japan’s Manufacturing Edge,” Harvard Business Review (November–December 1994): 174–178.
eBook - PDFStrategic Management
Concepts and Cases
- Jeffrey H. Dyer, Paul C. Godfrey, Robert J. Jensen, David J. Bryce(Authors)
- 2021(Publication Date)
- Wiley(Publisher)
Economies of Scope Economies of Scope differ from economies of scale in that the company does not reduce costs by increasing the volume of a specific activity but by expanding the scope of its operations to related activities, so that some costs can be shared. 12 Economies of Scope exist when the cost of conducting two business activities within the same company is less than the cost of those same two businesses operated separately. To illustrate, when PVH, parent company to Calvin Klein, Tommy Hilfiger, IZOD, Speedo, and Van Heusen, opens up a Calvin Klein store, a Tommy Hilfiger store, and an IZOD store all in the same outlet mall, the company is looking for econo- mies of scope. Each of these stores sells different kinds of products and therefore they perform different activities in terms of product design, product mix, suppliers, and marketing. However, the activities required to run these three separate stores are not completely unrelated. All three stores need to find—and sign leases for—optimal locations in the mall. All three stores also need to have their products shipped to the mall. When these stores are part of the same company, the company can lower the costs of securing retail space by (1) using the same people to identify, and negotiate the lease for, all three stores, and (2) using the bargaining power of leasing space for three stores rather than one to negotiate a better deal. PVH can also lower distribution and shipping costs by using the same warehouses and trucks to ship products to the mall. The company might engage in joint store promotions to boost sales, perhaps distributing promotional offers good for IZOD at the Calvin Klein stores, or vice versa. The greater scope of its operations is what allows PVH to share some of the costs of oper- ation across its three stores. We discuss Economies of Scope in greater depth in Chapter 6: Cor- porate Strategy.
eBook - PDFContemporary Industrial Organization
A Quantitative Approach
- Lynne Pepall, Dan Richards, George Norman(Authors)
- 2011(Publication Date)
- Wiley(Publisher)
The third term is the total cost of having these products produced by the same firm. Technology and Cost Relationships 49 If this difference is positive, then scope economies exist. If it is negative, there are disEconomies of Scope. If it is 0, then there are neither economies nor disEconomies of Scope. Baumol, Panzar, and Willig (1982) then introduce a precise index of scope economies S C which, for the reference two-good case defined by the ratio S C = C(q 1 , 0 ) + C( 0 , q 2 ) − C(q 1 , q 2 ) C(q 1 , q 2 ) (3.26) Here we make the conventional assumption that S C has an upper bound of 1, implying, in this two-product case, that production of each good separately cannot cost more than twice what it costs to produce them together. Economies of Scope can arise for a number of reasons. The first of these is that par-ticular outputs share common inputs. This is the source of Economies of Scope in the railroad example. There, the common factor is the track necessary to offer either pas-senger or freight rail service. Many other examples can be identified. For instance, a firm’s advertising expenditures benefit all of its products to the extent that such adver-tising is intended to establish the firm’s brand name. Similarly, if different products are manufactured with identical components, then the manufacture of a whole range of such products allows the firm to take advantage of Economies of Scope in the manufacture of the components. For example, assembly line production with human labor tends to be most efficient at very large production volumes for a single product. However, industrial robots are much better at changing tasks quickly. As a result, the integration of modern computer-assisted design/computer-assisted manufacturing (CAD/CAM) technology with robotic inputs allows the plant to achieve the volume necessary for scale economies while spreading that volume over a variety of goods produced in much smaller batches.
- Dudley Jackson(Author)
- 2018(Publication Date)
- Routledge(Publisher)
More generally, Economies of Scope exists if the efficiency rate of profit for joint production is greater than each and every efficiency rate of profit for separate production. Both definitions of ‘Economies of Scope’ can be expressed formally and illustrated as follows (where II denotes annual profit and K denotes the acquisition cost of capital installed, and where the subscripts A, B and C refer to Establishments A, B and C respectively): Economies of Scope occurs when either: Conventional definition (expressed in terms o f the efficiency rate ofprofit) The efficiency rate of profit for joint production is greater than the efficiency rate of profit calculated as the sum of profits made in separate production divided by the sum of the capital stocks used in separate production; or, equivalently, the efficiency rate of profit for joint production is greater than the weighted average of the efficiency rates of profit for separate production, each weight being the share of capital stock for separate production in the total capital stock for separate production Illustration o f conventional definition (expressed in terms o f the efficiency rate o fprofit) ( TIIK)C> (77 a + II b )/(K a + K b) (Type IV Comparison) Equivalently: (IIIK)C> (fn A/KA)(KA/(KA + Kb))) + (0 HJKB)(KJ(KA + k b))) or: New definition The efficiency rate of profit for joint production is greater than each and every efficiency rate of profit for separate production Illustration o f new definition (. TI/K)C> (JHK) a and ( IT/K)C> (IIIK)B (Type III Comparison) Econom ies o f Scale in Theory 179 Economies of Scope in the new definition using the Type III Comparison is undoubtedly important in the real world; it may explain why so many establishments produce many more than one type of product by increasing the establishment’s product mix. This may happen because it is often possible, by producing more than one type of product, to utilize fixed capital (or, indeed, to utilize other inputs) more fully.
eBook - PDF- David Besanko, David Dranove, Mark Shanley, Scott Schaefer(Authors)
- 2014(Publication Date)
- Wiley(Publisher)
84 • Chapter 2 • The Horizontal Boundaries of the Firm Scope Economies One motive for diversification may be to achieve Economies of Scope. Although there may be little opportunity to spread fixed production costs across businesses like auto-mobiles and pharmaceuticals, scope economies can come from spreading a firm’s underutilized organizational resources to new areas. 14 In particular, C. K. Prahalad and Richard Bettis suggest that managers of diversified firms may spread their own managerial talent across business areas that do not seem to enjoy Economies of Scope. They call this a “dominant general management logic,” which comprises “the way in which managers conceptualize the business and make critical resource allocations— be it in technologies, product development, distribution, advertising, or in human resource management.” 15 The dominant general management logic may seem at odds with the notion of diseconomies of scale, discussed earlier, that result when talent is spread too thin, which is why we emphasize the gains from spreading under-utilized resources. E XAMPLE 2.5 A PPLE : D IVERSIFYING O UTSIDE OF THE B OX Over the past decade, Apple has gone from being a focused computer maker given up for dead to the world’s most valuable technology company. From the Mac to the iPod, iPhone and iPad, Apple has thrived by leveraging Economies of Scope to suit changing trends and times. Constant innovation and efficient diver-sification have helped Apple excite its custom-ers and build remarkable brand loyalty. As a result, Apple dominates its markets and com-mands a price premium. Steve Jobs, Steve Wozniak, and Ronald Wayne founded Apple in the 1970s. With Jobs at the helm, the company quickly became known for its personal computers with a user-friendly operating system. Apple garnered rave reviews from loyal users, but most consumers purchased Microsoft-based personal comput-ers because of Microsoft’s lower price and greater availability.
eBook - PDF- Xiaokai Yang, Wenli Cheng, He-ling Shi(Authors)
- 2005(Publication Date)
- World Scientific(Publisher)
This distinction is Endogenous vs. Exogenous Comparative Advantage 267 given by the distinction between the concept of specialization and the concept of scale. For production function (1), there are economies of scale for each person in producing each good if a > 1. However, such economies of scale are limited. They are specific to each consumer-producer as well as to each activity. The concept of economies of specialization relates more closely to the concept of disEconomies of Scope than to the concept of economies of scale. We will discuss the relationship and distinctions between economies of specialization and scope after we have defined the concept of economies of division of labor. Roughly speaking, an economic organizational pattern is called division of labor, if it divides individuals' labor among different activities. Hence, the levels of specialization for individuals and the number of professional activities are two sides of the level of division of labor. It is extremely difficult to well define the notions of division of labor and level of division of labor because the level of division of labor is determined by many individuals' levels of specialization and the number of different professions. If the population size, M, equals two in the model of this paper, we can define division of labor as a pattern of economic organization in which at least one person specializes producing a single good. However, this definition is relevant only to the model with two goods and two persons. For the model with many goods and persons, the definition of division of labor will be much more complicated.
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