Evaluate the view that the separation of ownership from control in large firms inevitably leads to diseconomies of scale. The separation of ownership from control can be defined as the situation in which the shareholders of a firm do not manage or control it. The shareholders of large publicly owned have no controlling interest and hence the managers and directors run the organisation. Diseconomies of scale can be described as the increase in the long term average cost of production as the scale of operation increases.
It can be argued that the separation of ownership from control can lead to diseconomies of scale due to the lack of communication between managers and shareholders, hence inefficiency and averages costs increase. But it could also be argued that large firms can also benefit from economies of scale whilst being operated through the separation of ownership from control the diseconomies of scale are not always ‘inevitable’ as described above. Firstly, the separation of ownership from control can lead to managerial diseconomies of scale.
The power the shareholders have over the disciplining and monitoring of its executive management is reduced and as a result of this, managers may cause inefficiency by pursuing certain objectives for their own self-interest and at the expense of the shareholders. If the managers of the firm are measured and rewarded on achievement of growth targets rather than profit and return to shareholders then they may lose focus on cost control e. g. supplier costs and as a result this could drive up the average costs of production.
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This would have a bigger impact on large firms due to the scale of production. The costs will be felt on a much larger scale, particularly if this culture affects the way the whole of the business operates not just one business area. The extent on the managerial diseconomies of scale will depend on the objectives of the managers. If their personal targets are to ensure high business performance, then this increase in average cost may not be felt as they may aim to increase productive efficiency to maximise profit and dividends to shareholders.
Conversely, although diseconomies of scale may persist in a large firm, the separation of ownership of control may not necessarily be the cause of it. There are other factors that may have contributed to the firm experiencing diseconomies of scale. The rapid growth of a firm may cause the employees to feel alienated if they feel that they aren’t valued as an individual. As a result of this, the productivity of demotivated employees may fall and the roductive efficiency of the firm will decrease, therefore increasing the average cost for each unit of output. The diseconomies of scale may also be caused by the inability for a firm to monitor the productivity of every one of its employees. The lack of supervision resulting from the size of the company and scale of production may mean that employees are not working to their optimum level of output or utilizing resources efficiently and this could result in wasted resources e. . From employee errors. Therefore the average cost of producing one unit of output increases. Although, there is not really an easy way to determine the exact cause of the diseconomies of scale. In the short term, it may cost more for the business to alter the way it operates to reduce the average costs. The rate of growth and output may mean that the business is not prepared to change its operations whilst it is generating such a large amount of revenue.
In conclusion, I don’t think that separation of ownership from control will inevitably lead to diseconomies of scale for a large firm. Rapid growth is more likely to cause a business to experience them rather than the lack of control for shareholders of the firm. The most costly resources for a firm are employees and premises. The diseconomies of scale that a firm may experience may be due to the increase of overheads from the rapid expansion before the increased volume profit and volume can be realised in the long term.
Although the lack of control for shareholders may initially contribute to a rise in average costs as a firm expands (assuming that the managers want to operate the firm in a way that will meet their personal targets increase their salaries rather than maximise the return for the firm), the increase in average costs should be a short term phenomenon due to rapid increases in volume it should be outweighed by economies of scale generated from buying in large quantities.
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