Internal diseconomies of scale are diseconomies of scale that occur inside the firm and are within its control. They occur mainly due to managerial problems. As a result of being too big, hence poorly managed, the firm becomes inefficient. The inefficiency leads to higher unit costs of production.
The following issues add to the firm’s costs without any corresponding increase in productivity, thereby raising its unit costs.
1. Poor coordination
Coordination problems occur for businesses with operations in many different locations throughout the world. Business expansion is associated with a growing number of workers, managers, departments, divisions, products and countries where a firm operates in. More than one functional department can exist in different locations causing wasteful duplication of resources, and different workers operating in different time zones across different cultures.
Example 1: If one division of an oil company such as ExxonMobil, Shell or BP adopts a more lenient safety standards than the divisions in other countries on environmental issues such as oil spills that can cause enormous pollution, then the whole corporation can suffer from poor international publicity as a result.
A major problem for senior management is to coordinate business operations by having all divisions of the firm to achieve the same business objectives by adopting similar ethical standards, producing consistent goods and providing services with the same quality. Otherwise, poor coordination will lead to substantially higher production costs than for a smaller business with much tighter control over its business operations.
2. Poor communication
Communication problems reduce management efficiency. With a larger workforce and more departments, managers are more likely to lose touch with those lower down in the hierarchy as they may no longer be able to communicate directly with workers, thereby making them feel distanced. This can lead to poor decision-making and more mistakes.
Example 2: In 2018, Walmart, the world’s largest private employer with 2.3 million associates announced that it will now let employees use their own mobile phones at work for work purposes. Employees who volunteer for the Bring Your Own Device (BYOD) program will download Walmart apps, so that once they clock in, they can check inventory and prices, scan products, review sales data and accomplish other tasks.
Because of the need to communicate with more workers and longer time to pass the message around the whole organization, wider spans of control and longer chains of command can cause communication problems including slowing down decision-making and damaging communication flows:
a.) Wider span of control. If a business becomes too large, managers face wider spans of control than in smaller companies. A wide span of control means that a single manager is responsible for managing larger number of workers on daily basis.
b.) Longer chain of command. Chains of command also tend to be longer in bigger firms as there are many layers of management. Hence, it will take longer for the top management to communicate messages down the line to the workers at the bottom of the organizational structure, and then wait for feedback.
c.) Lack of feedback. Large-scale operations lead to poor feedback to and from workers due to waiting time, hence reducing worker incentives. It may increase the use of non-personal communication media, cause communication overload and create distortion of messages. Morale of staff will be negatively impacted, thereby reducing productivity leading to higher unit costs.
All of these communication inefficiencies may cause inadequate and delayed information, or even prevent the really important messages being acted upon in a timely manner.
3. Poor control
The need to control higher number of departments, production units (especially those located abroad) and products can present managers with control problems. The business’s average costs may rise as a result of managers of different departments and different production units working towards different objectives. There is also a greater risk that work will be duplicated and this, of course, is a waste of scarce resources leading to unnecessary increases in costs.
4. Demotivation of workers
Lower productive efficiency is likely to be the result of working relationships in an oversized business suffering from lack of specialization and poor division of labor. On one hand, workers become bored with performing repetitive tasks, and on the other, with larger workforce, there may also be scope for slack and procrastination. In very large businesses, managers may no longer have an opportunity for a day-to-day contact with workers causing employee morale to deteriorate. This can lead to demotivation as workers feel that they are no longer a valued part of the business. And as a consequence, leading to poor product quality and high labor turnover.
5. Complacency
Complacency equals problems. Complacency means self-satisfaction with being a large and dominant player, or even the market leader, while accompanied by unawareness of actual dangers of competitors and company’s own deficiencies. Complacency is most likely going to reduce productivity as workers and managers keep on relying on their previous successes. Reduced productivity will thereby raise unit costs of production.
6. Alienation of the workforce
Workers in larger organizations might feel a sense of alienation causing harm to staff morale. The bigger the organization, the more difficult it becomes to directly involve every worker, and to give them a sense of purpose and achievement in their work. They may feel so insignificant to the overall business plan as they become demotivated and fail to give their best performance. The use of cell-production, teamworking and other job-enrichment methods have gone a considerable way to minimize this problem in larger manufacturing firms that tend to adopt mass production as a production method.
7. Bureaucracy
The amount of bureaucracy (e.g. larger administration, redundant paperwork, longer processes, stricter company policies, etc.) increases as the business grows. This makes decision-making more time consuming for everybody adding to the costs of the business. Bureaucracy can also make business communication more difficult, thereby worsening working relationships that will lead to higher unit costs. Unfortunately, bureaucracy is unlikely to contribute to any extra output of goods and services for the customer.
Diseconomies of scale are the result of higher unit costs as a firm continues to increase larger and larger in size. The business can also lose touch with customers. Higher costs of production will then lead to less profit, or even a loss.
