High volume vs Low volume impact on productivity and margins
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    Default High volume vs Low volume impact on productivity and margins

    Hello, I am researching the topic of productivity challenge for small businesses. According to some data available on the web, one of the key disadvantages small businesses have when compared with large ones is in economies of scale.
    I am very curious to hear some of your opinions.
    for example,
    1. how much in raw (/incoming) material costs as a percentage can you save, if you purchase in a bulk order(for example 10 times higher volume)?
    2. If I am starting a business (with very small capacity), is it something I need to be worried about upfront?

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    The most important factor in profitability is the size of the market -- and a company's share. The top two or three producers in any market, by market share, tend to be the most profitable. Small market - you don't make many examples. Large market - you need to be a large scale producer to compete. So, potential volume is set by demand, not some arbitrary notion of bigger is better.

    If a company competes is a large (by unit volume) market, then there are surely economies of scale.

    Purchasing effienciency, as you know, is one. The ability to spread overheads over a larger base is another. Automation is a third - though even somewhat smaller companies can now afford things like CNC machines.

    A potentially larger advantage of scale, for those aware enough to profit from it, is the entire experience curve.

    Just like the more swings you take at a golf ball the better you should get, volume provides opportunity to learn and find better / faster / cheaper ways of doing things. This can include everything from more experienced workers, to more productive equipment, to redesign of the product for ease of assembly and repair.

    There's a whole school of management thinking - often correct - that a company should sacrifice profits early on in order to get fastest down the learning curve. This even happens at country scale - with nations subsidizing favored industries in order to advantage their producers in gaining experience - or maybe just squeeze out competitors.

    Getting fastest through an experience curve is a good thing -- at least for customers -- if a manufacturer actually improves the product and processes and passes on the cost savings.

    Sometimes it leads to an early dominant market position and subsequent abuses from a single monopolists or a cabal of oligopolists. There could be a whole tangent on this. Large incumbents can not only get special tax and regulatory privilege - they can use it as a barrier to smaller competitors. Or another example, not only may they get lower prices for materials, they may lock up supply.

    Bottom line - I'd concentrate less on "economies of scale" and spend more time on the factors that lead companies to be the fastest and most responsive learners in any given market. There's also an "economies of scope" argument that companies that get really good at one sort of product or process also have an advantage. So, while markets tend to be dominated by a couple of producers with broad customer appeal and high market share - there are also usually niche players with high end appeal, stripped down low cost versions, especially reliable versions, especially high performance versions, and so on. Then, there is the greater ability of small players (without so much invested in the status quo) to disrupt an industry with innovative products and processes. It didn't matter that RCA got the bits for vacuumn tubes really cheap when scrappy upstart Intel came around.

    Both the economies of scale and the economies of scope arguments come back to how quickly a manufacturer learns about their customers' needs and improves their product and process to best serve them.

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    Another advantage of higher volumes and predictable production is you get to set up blanket orders with suppliers. You get the advantage of lower cost and it's easier for both parties to deal with.

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    Thank you @PeteM for the wonderfully descriptive response and as you clearly pointed out productivity is a multi-dimensional problem and purchasing efficiency is just one.

    Quote Originally Posted by PeteM View Post
    The most important factor in profitability is the size of the market -- and a company's share. The top two or three producers in any market, by market share, tend to be the most profitable. Small market - you don't make many examples. Large market - you need to be a large scale producer to compete. So, potential volume is set by demand, not some arbitrary notion of bigger is better.

    If a company competes is a large (by unit volume) market, then there are surely economies of scale.

    Purchasing effienciency, as you know, is one. The ability to spread overheads over a larger base is another. Automation is a third - though even somewhat smaller companies can now afford things like CNC machines.

    A potentially larger advantage of scale, for those aware enough to profit from it, is the entire experience curve.

    Just like the more swings you take at a golf ball the better you should get, volume provides opportunity to learn and find better / faster / cheaper ways of doing things. This can include everything from more experienced workers, to more productive equipment, to redesign of the product for ease of assembly and repair.

    There's a whole school of management thinking - often correct - that a company should sacrifice profits early on in order to get fastest down the learning curve. This even happens at country scale - with nations subsidizing favored industries in order to advantage their producers in gaining experience - or maybe just squeeze out competitors.

    Getting fastest through an experience curve is a good thing -- at least for customers -- if a manufacturer actually improves the product and processes and passes on the cost savings.

    Sometimes it leads to an early dominant market position and subsequent abuses from a single monopolists or a cabal of oligopolists. There could be a whole tangent on this. Large incumbents can not only get special tax and regulatory privilege - they can use it as a barrier to smaller competitors. Or another example, not only may they get lower prices for materials, they may lock up supply.

    Bottom line - I'd concentrate less on "economies of scale" and spend more time on the factors that lead companies to be the fastest and most responsive learners in any given market. There's also an "economies of scope" argument that companies that get really good at one sort of product or process also have an advantage. So, while markets tend to be dominated by a couple of producers with broad customer appeal and high market share - there are also usually niche players with high end appeal, stripped down low cost versions, especially reliable versions, especially high performance versions, and so on. Then, there is the greater ability of small players (without so much invested in the status quo) to disrupt an industry with innovative products and processes. It didn't matter that RCA got the bits for vacuumn tubes really cheap when scrappy upstart Intel came around.

    Both the economies of scale and the economies of scope arguments come back to how quickly a manufacturer learns about their customers' needs and improves their product and process to best serve them.

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    Volume discounts on material aren't linear and taper down significantly once you exceed a $2K-ish (USD) order for a given material in a given size.

    For example, if you buy $200 worth of 6061-T6 aluminum in a given size, you may be paying triple the price-per-pound compared to buying $1K or $2K worth of the same material and size. But if you buy $10K worth of material, you might only see an additional 5% price reduction per pound.

    As a small volume producer, you should commit to enough volume to get reasonable pricing, but don't chase every last cent by overcommitting to quantities that'll take years to use up. Your efforts should be focused elsewhere, like production efficiency.

    The dominant cost of manufacturing, and just about any business, is labor.

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    why do i see a school project

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    Quote Originally Posted by CarbideBob View Post
    why do i see a school project
    Google is the new "cliff notes"....

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    I'll throw in one factor: large volumes are usually from large customers who are much more concerned about cost and beating up suppliers. Assuming you're a job shop and can quote quickly and process quickly and efficiently (especially with short set-up times), you can make a lot more money on small jobs. Yes, there are always exceptions, especially if you can make custom processes/equipment to make large volume parts on the side while you make high profit low volume jobs on regular production equipment. But here's what often is the main issue: when you're making low-cost high-volume parts (i.e. with low profit percent) on your "regular" production equipment: Your labor and machines can't make high-cost low-volume parts! But hey, you'll make it up in volume!

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    Quote Originally Posted by Orange Vise View Post
    Volume discounts on material aren't linear and taper down significantly once you exceed a $2K-ish (USD) order for a given material in a given size.

    For example, if you buy $200 worth of 6061-T6 aluminum in a given size, you may be paying triple the price-per-pound compared to buying $1K or $2K worth of the same material and size. But if you buy $10K worth of material, you might only see an additional 5% price reduction per pound.

    As a small volume producer, you should commit to enough volume to get reasonable pricing, but don't chase every last cent by overcommitting to quantities that'll take years to use up. Your efforts should be focused elsewhere, like production efficiency.

    The dominant cost of manufacturing, and just about any business, is labor.
    I was having a hard time getting steel suppliers to take my cash on any orders recently. No buying power what so ever.

    I have to put it on the account. No C.O.D. either. Same price either way.

    I try to buy 500 lbs to get an ok price, 1000+ lbs gets a little better pricing. Anything above that up to 2240 lbs is roughly the same price. Once you go above that you really only save on shipping.

    It doesnt make sense to tie up funds like that when their is no upside.

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    Quote Originally Posted by DanASM View Post
    I was having a hard time getting steel suppliers to take my cash on any orders recently. No buying power what so ever.

    I have to put it on the account. No C.O.D. either. Same price either way.

    I try to buy 500 lbs to get an ok price, 1000+ lbs gets a little better pricing. Anything above that up to 2240 lbs is roughly the same price. Once you go above that you really only save on shipping.

    It doesnt make sense to tie up funds like that when their is no upside.

    If you quit buying from the service center and buckle down and start stocking up on [cold] mill* qty volumes on anything that you routinely use, you would save quite a bit.

    You typically need to buy 10K# at a time, but they will generally allow you to take several different sizes in qtys as low as 2000# each to add up.

    You could save 1/3.




    * Eaton, Corey, Laurel, ,Niagara, Republic, Nucor, Capital (?)


    ----------------

    Think Snow Eh!
    Ox

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    Quote Originally Posted by Ox View Post
    If you quit buying from the service center and buckle down and start stocking up on [cold] mill* qty volumes on anything that you routinely use, you would save quite a bit.

    You typically need to buy 10K# at a time, but they will generally allow you to take several different sizes in qtys as low as 2000# each to add up.

    You could save 1/3.




    * Eaton, Corey, Laurel, ,Niagara, Republic, Nucor, Capital (?)


    ----------------

    Think Snow Eh!
    Ox
    I have had this discussion with Niagara about Stressproof last year. I think min qty was 6k lbs. Mills can order 2000lb mins cause they spread it out.

    Sounds about right.

    I have a new customer who is supplying the material. I havent gotten into the over .750-1.625 sizes yet. I know that will add up quick. Nothing like loading 12' 1.5" CRS. Hey at least its not winter anymore.

    I also learned about surcharges, and how to figure out rough pricing for the month.

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    We used to buy mill runs 20 years ago, it really saved money. However, in recent years they all have a clause in the purchase agreement reading something like, "plus any surcharge in effect at time of shipment" which absolutely cancels out any advantage for the customer. Who could possibly feel confident that the quoted price would still be valid when they finally put it on the truck? You'd have to be pretty naïve (or new in business) to trust a one-way deal like that. A balloon mortgage comes to mind...or, Your Check Is In The Mail...or, Yes—I'll Still Respect You In The Morning. And these are American mills, who bitch about foreign competition.

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