Chapter 4- Cost Advantage
1. wage rates 2. exchange rates 3. raw material and energy costs
3 areas where differences can occur that will allow price of inputs to vary significantly
1. market share does not guarantee substantial cost advantages 2. spillovers of knowledge to rivals lower their costs of learning 3. aging equipment can impede continues learning and cost advantages
3 limitation of the experience curve
1. R&D 2. advertising 3. general and administrative costs
3 types of non production costs that can be spread to reach economies of scale
1. ability to spread fixed costs of production 2. ability to spread non production costs 3. specialization of equipment 4. specialization of people
4 principle sources where economies of scale arise
1. greater bargaining power over suppliers or labor 2. superior cooperation with suppliers 3. sourcing from low-cost locations 4. preferred access to inputs
4 sources of lower input costs
1. growth/investment strategy 2. pricing strategy 3. cost-management strategy 4. acquisition strategy
4 strategic implications of scale/experience curve
1. exercising strong bargaining power over suppliers 2. cooperating especially well with suppliers 3. getting inputs from low-cost locations 4. arranging better access to inputs than other companies have
4 ways that companies achieve cost advantage through lower-cost inputs
1. use a pull system: avoid overproduction 2. just-in-time delivery: reduce inventory 3. level out the workload: smooth production 4. use visual controls: illuminate problems and reduce defects 5. find the bottleneck: increases productivity
5 key principles of toyota production system
1. economies of scale 2. learning and experience 3. proprietary knowledge 4. input costs 5. different business models
5 sources of cost advantage
cost advantage strategy
allowed by companies who rely on fact that humans can perform tasks more efficiently the more a task is related and helps people become more effective at completing task
cost synergies
amount by which costs will likely decrease if two firms combine their volume/scale. scale curve can be useful to predict
diseconomies of scale
an increase in marginal cost when output is increased
task specialization
breaking a large process in to smaller tasks that require specialized knowledge
learning curve
concept that labor costs per unit decrease with increases in volume due to learning. new skills or knowledge can be quickly acquired initially, but subsequent learning becomes much slower
ensuring causality
confirming that there is not a third variable that may be causing both profitability and market share to increase simultaneously besides the reason of scope/scale and experience
general and administrative costs
expenses and taxes that are directly related to the general operation of the company, the executive salaries, general support and taxes related to the overall administration of the company
different business model
firm can deliver a product or service at a lower cost by eliminating activities or steps in the value chain or using a different set of activities altogether
growth/investment strategy
first movers in a fast growing market will secure a widening cost advantage. firm's must grow as fast, or faster, than rivals or be at a cost disadvantage
scale curve
graphic representation of the relationship b/w cost per unit and scale (volume) of production in a given period. at some point costs per unit no longer decrease with increases in volume
learning and experience
greater cumulative volume drives cost differences due to this increasing within companies with more cumulative experience in production
economies of scale
greater volume unit allows firms to have lower costs by spreading fixed costs across more units, specialization of equipment and people
employee specialization
increased efficiency that results when employees perform a narrow range of tasks over and over again, leading them to acquire specialized knowledge that helps them complete the task more efficiently
experience/volume drives lower costs per unit of experience/volume
industries that contain this will have relationship between market share and profitability
proprietary knowledge
information that is not public and that is viewed as the property of the holder. can lead to cost advantage without scale or output being involved
relative market share (RMS)
is reasonable proxy for relative cumulative experience: of leader relative to next largest follower, of all followers relative to leader
economies of scale
reduction in costs per unit due to increases in efficiency of production as the number of goods being produced increases
experience curve
representation of the relationship between cumulative volume and product cost
inputs
resources such as people, raw materials, energy, information, or financing that are put into a system to obtain a desired output
pricing strategy
scale/experience curve used: -as a basis for market share based on pricing strategy -as a basis for planning future prices -as a basis for pricing a production run or contract
benchmarking/cost analysis
scale/x-curves can be plotted for a company and its competitors to assess how well each company is managing its costs. companies that fall above the regression line may not be managing costs well
acquisition strategy
scale/x-curves provide data on how much costs will likely decrease (Cost synergies) if two firms combine their volume/scale
minimum efficient scale
smallest level of output that a plant or firm can produce to minimize its long run average costs. in graphic presentation of output/unit volume (x-axis) and cost per unit (y-axis) it is the output level where costs per unit flatten and no longer continue going down w/ increased output
proprietary knowledge
some companies develop this in the production of their product or service which leads to a cost advantage
cost advantage strategy
strategy for offering unique value where a firm reduces its prices below all of its competitors, thereby allowing it to gain market share
cost advantage strategy
strategy for offering unique value where firm chooses same price as competitors which results in greater profits rather than higher market share
cost advantage strategy
strategy in which the unique value offered to customers is lower-priced products or services
TPS
successful but difficult imitate production system
economies of scope
the average total cost o production decreases as a result of increasing the number of different goods produced
relative costs
the costs incurred by one company compared to the costs paid by a competitor
1. eliminating steps in the value chain 2. performing completely new activities
2 primary ways in which a cost advantage can be achieved through creating a new business model
1. ability to spread fixed costs 2. specialization
2 reasons why economies of scale lower costs
1. decreasing variable costs per unit due to learning 2. decreasing fixed costs per unit due to scale
2 reasons why experience curve works
1. shift more of cost structure from fixed to variable costs 2. diversifying into businesses that are countercyclical
2 ways that firms with heavy fixed assets can respond to concern of disadvantage of economies of scale
1. purchasing volume 2. purchasing and negotiating tactics
2 main sources of bargaining power over suppliers
fixed cost of production
costs such as plant and equipment which are relatively fixed meaning that they do not increase with an increase in the number of units produced
firms with scale have advantage in economic upturns but may be at disadvantage during downturns
disadvantage of scale since firms may have more difficulty spreading fixed costs when demand declines
market share
does not guarantee substantial cost advantages b/c there is a cost to it and learning curve flattens with high experience
business model
the plan and set of activities implemented by a company to offer unique value and generate revenue and make a profit from operations
value chain
the sequence of all activities that are performed by a firm to turn raw materials into the finished product that is sold to a buyer
Toyota Production System (TPS)
toyota's proprietary knowledge that has given them a cost advantage
1. cost advantage 2. differentiation advantage
two generic strategies for offering unique value