Sources of cost advantage - Salem State University



Sources of cost advantage

Size differences and economies of scale

1. volume of production and specialized machines

2. volume of production and cost of plant and equipment

3. volume of production and employee specialization

4. volume of production and overhead costs

Size differences and diseconomies of scale

1. physical limits to efficient size

2. managerial diseconomies (ability to control and operate efficiently)

3. worker motivation (As workers become mere cogs in a manufacturing machine, worker motivation wanes and productivity and quality suffer.)

4. distance to markets and suppliers

Experience differences and learning curve economies

Y=ax-Β

Where

Y = the average time to produce all x units

A = the amount of time spent producing the first unit

X = the total number of units produced

Β = a coefficient that describes the rate of learning in producing output

per unit costs

Cumulative volume of production

Differential low cost access to factors of production

Technological advantages independent of scale

Policy choices

Cost leadership and sustained competitive advantage[1]

| | |Source of costly duplication |

| |Source of cost advantage |history |uncertainty |Social complexity |

|Low cost duplication |Economies of scale |______ |______ |______ |

|possible | | | | |

| |Diseconomies of scale |______ |______ |______ |

|May be costly to duplicate |Learning curve economies |* |______ |______ |

| |Technological hardware |______ |* |* |

| |Policy choices |* |______ |______ |

|Usually costly to duplicate |Differential low cost access to factors of |*** |______ |** |

| |production | | | |

| |Technological software |*** |** |*** |

______ = not a source of costly imitation

* = somewhat likely to be a source of costly imitation

** = likely to be a source of costly imitation

*** = very likely to be a source of costly imitation

The rareness of sources of cost advantage1

|Likely to be rare sources of cost advantage |Less likely to be rare sources of cost advantage |

|Learning curve economies of scale (especially in emerging economies) |Economies of scale (except when efficient plant size approximately |

| |equals total industry demands) |

|Differential low cost access to factors of production |Diseconomies of scale |

| |Technological hardware (unless a firm has proprietary hardware |

| |developmental skills) |

|Technological software |Policy choices |

Organizing to realize the full potential of cost leadership strategies1

|Organizational structure |Management control systems |Compensation policies |

|Few layers in the reporting structure |Tight cost control systems |Reward for cost reduction |

|Simple reporting relationships |Quantitative cost goals |Incentives for all employees to be involved in |

| | |cost reduction |

|Small corporate staff |Close supervision of labor, raw materials, | |

| |inventory and other costs | |

|Focus on narrow range of business functions |A cost leadership philosophy | |

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[1] Barney, Jay B. 1996. Gaining and Sustaining Competitive Advantage. Addison-Wesley Publishing Company. Reading, MA p. 208.

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