New entrepreneurs will often encounter the term ‘economies of scale.’ This concept is easy to understand, even if you didn’t study economics. It basically refers to how unit cost can decrease as you increase the volume of output of a product or find ways to improve efficiency.
For example, if a company manufactures its products overseas but intends to sell them in the US, it will inevitably have to shoulder the cost of shipping. By producing a higher volume of goods, they maximize the load on each trip. Effectively, each item costs less to produce when transport costs are factored in. Profits rise without having to raise the retail price.
Many people think that economies of scale are something only big businesses can use to their advantage. But that’s incorrect. There are many ways for a small business in the modern world to get into the act and take advantage of these mechanisms.
It’s a common perception that outsourcing is a negative thing. We associate it with cutting costs and sacrificing quality. American workers often feel betrayed at the idea that foreigners with cheap labor costs are taking over their jobs.
The truth is that outsourcing makes a lot of sense to any business. Think of all the tedious work that doesn’t have any bearing on outcomes. Why pay a member of your in-house team to pick up the phone when a telephone-answering service can take messages and route calls for you?
Outsourcing gives a small business access to the economies of scale available to third-party experts in areas as diverse as payroll, accounting, or customer support. Simultaneously, it frees up people with valuable skills to handle tasks that actually drive value.
When you launch your first small business, you rely on a handful of team members. The environment can be similar to a typical tech startup. Everyone is expected to help out with each other’s tasks and work long hours, regardless of the job description.
This sort of small team mentality can be great for engagement, but it’s really not sustainable in the long run. People burn out. And in any case, businesses want to scale and move past that stage of development.
Specialization is essential to this process, and it’s another way to tap into economies of scale. By hiring specialists to perform jobs in data analysis, marketing, design, or IT, you get more effective results to improve products and services across the board.
Depending on your business’s nature, the best way to initially harness economies of scale might be through sheer efficiency. This can come from your systems, machinery, or workflow processes. But it’s always dependent on your value proposition.
For instance, a toy manufacturer based on 3D printing might want to start by purchasing the fastest industrial-scale machine available on the market to increase production and save time. However, if your core competency is actually printing product prototypes for other businesses, then speed is less valuable than accurate detail and functionality.
Changing business models
At the opposite end of the spectrum are businesses that can change their operation model to achieve scale without necessarily invoking growth. Most tech startups are founded with this goal in mind.
If you sell a virtual product, then most of the costs involved go into its development. Distribution is a much easier matter. Each additional sale comes in at minimal cost, and the model delivers repeatable value.
Similar principles are at work in a business like Airbnb or Etsy. Users who sign up for these platforms aren’t just customers. They can also list new properties or goods to increase the inventory and attractiveness of the whole business.
Finally, a small company can operate at scale by diversifying its offerings. Once you have established profitability with your main line, you can experiment with offering a new product or service.
This incurs a higher risk level than sticking to your existing lineup, but you can effectively shoulder any losses by drawing from your revenues. It’s a way of applying the Pareto principle. You’ll have effectively established a new line of business while spreading out the risks or costs.
Companies don’t need to diversify if they have already discovered their true purpose and locked into their core competencies. For many small businesses, that’s not the case. Diversification helped the likes of Netflix and GE to become what they are today. It could be the tactic you’re seeking to take advantage of economies of scale and thrive in the business world.