Evaluate the view that the separation of ownership from control in large firms inevitably causes diseconomies of scale In this essay I plan to show what consequences there are from a separation of ownership from control and what effects could occur as a result. I will be arguing whether managers are worth the cost of hiring, to the business as a whole, giving examples of problems that may arise in these types of situations and what impact they can cause. The separation of ownership in large firms is when the owners appoint paid managers to run their businesses, causing ownership to be divorced from control.
Diseconomies of scale are the forces that cause larger firms to produce goods and services at increased per-unit costs. The normal objective of firms is to maximise profits. However, there are cases of satisficing and some firms have other objectives, such as the ethical objectives of charity shops and the government’s aim to preserve jobs. Separating ownership from control, to let specific managers run the firm could have an excellent positive effect, but managers have flaws too. It is vital to understand the important effects, and why economies and diseconomies of scale work, especially in larger firms.
Diseconomies of scale are undoubtedly a bad thing for a large firm as the firms will be gaining less revenue and in turn profit. The separation of ownership from control occurs in large firms (PLCs). The companies sell shares or part ownership to finance their growth. The owner is divorced from control. Satisficing is when managers pursue their own interest, such as managing a bigger business to achieve higher pay or more leisure time rather than trying to maximise profit, after they have achieved an acceptable profit.
The manager may merge or takeover other firms to manage a bigger business because larger firms generally provide higher wages. This inevitably causes diseconomies of scale because organising, motivating and communicating with workers becomes more difficult. Managers, with their high level of pay and poor effort to maximise profits, could cost the company more because the diseconomies of scale from their choices reduce the profit made.
As a firm is expanding, it becomes increasingly difficult for workers to communicate on a personal level because of the sheer increase in the number of workers; this means that communication takes longer and is less direct. This extra time and loss of personal contact means that the company will be less efficient and so costs will be higher. This type of diseconomies of scale can happen as a firm gets larger, possibly due to the separation of ownership from control. However, it is not inevitable for separation of ownership from control in large firms to cause diseconomies of scale.
If the share holders employ a skilful manager who pursues organic growth of a firm (slowly growing through investment) rather than taking over other firms, economies of scale would appear which will outweigh the diseconomies of scale. Economists have discovered that economies of scale tend to be greater than diseconomies of scale in large businesses, although diseconomies of scale tend to increase when the scale increases. If we look at the diagram below we can see the difference between them.
Diseconomies of scale can be lowered by using more technologically advanced methods to organise, motivate and communicate with workers. For example, mobile phones and e-mail can be used. This doesn’t prevent some degree of diseconomies of scale, but economies of scale can be raised at a faster rate. It is important to realise that the law of diminishing returns represented by the U curve isn’t always the case – empirical evidence suggests that in most industries that are managed properly, economies of scale can more often than not overcome diseconomies of scale.
An example of this would be the takeover of Safeway by Morrisons; to begin with there were lots of diseconomies of scale but now they have succeeded in managing efficiently and there seems to be more economies of scale. Management can be separated into different levels through specialisation. A managing team would be split up into three groups; top-level, middle and lower. There is specialisation in this managing sector where each group can focus on their own targets so that the large firm on the whole could potentially accomplish.
The top level would be responsible for strategic decisions and so they must look into future prospects and be aware of external factors like markets. This can be advantageous, for the firm is looked upon wholly in comparison to the rest of the world. The middle level would be in charge of making the tactical decisions where they are responsible for carrying out choices made by the top level. This part of the sector would be the active doers where they put the ideas into practice. Finally the lower level managing group are responsible for the operational choices.
They would concentrate on making sure that the other two are carrying out their goals. They can be portrayed as the motivating unit, to make sure that there isn’t any lack of action. This organisation of the division of labour can be extremely beneficial in achieving their goals. Management has a method where they would start by planning what they will do, following with organising to make optimum use of the resources required. Then there would be some motivation and leading where there would be some exhibition of skills. Lastly some controlling to ensure the plan is being followed.
The procedure of managing is debatably an efficient way to run a large firm as the owner may not be able to do a better job then the managing sector. Even if the manager doesn’t take advantage of the extra potential economies of scale they may be doing better anyway. On the other hand, some of the top-level management groups have different aims than one would expect. Their only goal is to maximise profits and there is no concept of a judicious decision. If this happens, the lower level group has to try and correct the decision making. This is clearly a disadvantage because there is wastage of time.
Another problem is that some of the managing sectors tend to take credit when the firm is succeeding but then blame others when they fail. This may make it hard to try and correct the failing part of the managing jobs so the firm won’t be able to do better in the future. Having this, it is also difficult to realise the factors that led the firm to succeed. This is known as “slopey shoulder syndrome”. Another possible drawback is the intentional promotion of an incompetent worker so that there is less competition for the managing job. A manager may do this because they have no real interest for the firm but for themselves, o by hiring a less able worker they could suffer from inefficiency as a result. Managers can have a reasonable amount of power in the firm and so it is highly likely that the manager could cause diseconomies of scale. In conclusion, managers can be seen as necessary to manage a large and complex firm. However, one must still consider them a “necessary evil” as they could potentially produce diseconomies of scale. The separation of ownership from control in large firms is very likely to cause diseconomies of scale, but it is not inevitable. Furthermore, economies of scale which occur at the same time must also be taken into account.
