Location decisions

Unit 26
• Deciding on the best location for a new business, or relocating an existing one, is often
crucial to its success. It is a major operations management decision, which affects the
productive efficiency of the business.
The benefits of an optimal location

• strategic in nature, as they are long term and have an impact on the whole
business
• difficult to reverse if an error of judgement is made, due to the costs of
relocation
• taken at the highest management levels, not delegated to subordinates.
optimal location
• An optimal location decision is one that selects the best site for a new business or for
relocating an existing one. T
• his best site should maximise the long-term profits of the business. In practice, it is
not easy to select this best site because the optimal location is nearly always a
compromise between conflicting benefits and drawbacks.
examples
1.Example 1: A well-positioned high street shop will have the potential for high sales
but will have higher rental charges than a similar-sized shop out of town.
2.Example 2: A factory location on an industrial estate many kilometres from a large
city may have relatively low rental costs. However, the business could have problems
recruiting employees due to
• the lack of a suitably trained working population.
• an optimal location is likely to be a compromise that balances:
• the high fixed costs of the site with convenience for customers and potential
sales
• the low costs of a remote site with the limited supply of suitably qualified
labour
• quantitative factors with qualitative factorsthe opportunities of receiving
government grants in areas of high unemployment with the risks of low sales
because of low average incomes in these areas.
Drawbacks of non-optimal locations
Quantitative factors that determine location and relocation decisions

• Managers will consider a range of factors before making location or relocation

decisions.
• Site and other fixed costs such as buildings
• These vary greatly from region to region within a country and between countries too.
The best office and retail sites may be so expensive that the cost of them is beyond
the resources of all but the largest companies. The cost of building on a ‘greenfield’
site (one that has never been developed) must be compared with the costs of adapting
existing buildings on a developed site.
• Labour costs
• The relative importance of these as a locational factor depends on whether the
business is capital or labour intensive. The customer call centre of an insurance
company will need many workers. In contrast, the labour costs of a nuclear power
station will be a very small proportion of its total costs. The attraction of much lower
wage rates overseas has encouraged many European businesses to set up operations
such as telephone call centres and manufacturing facilities in other countries.
• Transport costs
• Businesses that use heavy and bulky raw materials, such as steelmaking, incur high
transport costs if suppliers are at a great distance from the steel plant. Goods that
increase in bulk during production reduce transport costs by locating close to the market.
Service industries, such as hotels and retailing, need to be conveniently located for
customers, and transport costs are of less significance.
• Potential revenue
• The level of revenue achieved by a business is influenced by location. Confectionery shops
and convenience stores have to be just that – convenient to potential customers. Some
locations can add status and image to a business. This may lead to customers believing
that the products have higher perceived value. Higher prices could be charged in these
locations. This is true for high-class retailers situated in London’s Bond Street or Ngee Ann
City in Singapore, but also for financial specialists operating from New York’s Wall Street.
• Government grants
• Most governments are very keen to encourage new businesses to locate in their country.
Grants may be offered to act as an incentive. Existing businesses operating in a country
can also be provided with grants to relocate to areas of high unemployment.
• External economies and diseconomies of scale Once these quantitative factors have been
identified and costs and revenues estimated, the following techniques can be used to
assist in the location decision:
• Profit estimates
• By comparing the estimated revenues and costs of each location, the site with the highest
annual potential profit may be identified.
• Limitation: Annual profit forecasts alone are of limited use. They need to be compared with the
capital cost of buying and developing the site. For example, a site offering 10% higher annual
revenue than an alternative location is unlikely to be chosen if the capital cost is 50% higher.
• Investment appraisal
• Location decisions often involve a substantial capital investment. Investment appraisal methods
can be used to identify locations with the highest potential returns over a number of years
• Limitation: These methods require estimates of costs and revenues for several years for each
potential location. This introduces a considerable degree of inaccuracy and uncertainty into this
form of quantitative decision-making.
• Break-even analysis
• This can be used to calculate the forecast break-even point of two or more possible locations.
The lower this break-even level of output or sales, the less the risk of making a loss in this
location. This information might be particularly important for businesses that pay high levels of
fixed costs. They may benefit from a location with lower overheads.
• Limitations: Break-even analysis should be used with caution. The limitations of this technique
apply when using it to help make location decisions.
Worked example
Qualitative factors that determine location and relocation decisions
The main qualitative factors considered in location and relocation decisions are as follows.

• Safety
• The production method may create potential risks to the public and damage to the company’s reputation
if there is an accident. Some industrial plants need to be located in remote areas, even though this may
increase transport and other costs.
• Space for further expansion
• It is expensive to relocate if a site proves to be too small to accommodate an expanding business. If a
location has space for further expansion, then this might be an important long-term
• Managers’ preferences
• In small businesses, managers’ personal preferences regarding desirable work and home environments
could influence location decisions of the business. In larger organisations, such as a public limited
company, this is unlikely to be a factor. Earning profits and increasing returns to shareholders will be key
priorities in location decisions.
• Ethical considerations
• A business deciding to relocate from its existing site is likely to make workers redundant. This will cause
bad publicity. It could also be against the ethical code of the business and stakeholders may view it as
being immoral.
• If the relocation is to a country with much weaker controls over worker welfare and the environment,
there could be claims that the business is acting unethically. This might lead to negative pressure-group
activity.
• Environmental concerns
• A business might be reluctant to set up in an area that is particularly sensitive from an
environmental viewpoint, such as near a public park. Locating in a beautiful area could
lead to poor public relations and action from pressure groups.
• Infrastructure
• The quality of the local infrastructure, especially transport and communication links, will
influence the choice of location. For example, Singapore’s huge port facilities have
encouraged many of the world’s largest shipping firms to set up bases there. The quality of
information technology (IT) infrastructure varies considerably around the world. This is an
important consideration for companies that need quick communication with customers or
different sites. The growth of online shopping may lead to some retailers opening fewer
high street stores but setting up more warehouse operations to supply consumers directly.
• Planning restrictions
• Local authorities want business and industry located in their area because jobs are
created. However, these authorities want to protect the environment of the towns and
villages. In some areas, large development corporations have been set up to develop a
town or city into a much more successful combination of dwellings and industrial activity.
In most countries, local or central government have set up industrial estates and business
parks that both businesses and consumers find very attractive.
 Advantages of multi-site locations
• Most large businesses operate on more than one site. Major retailing companies, for
example, expand mainly by opening new sites in new locations. It would be pointless
trying to serve the whole of a country from one shop unless, of course, the business sold
only over the internet. In the case of Amazon, one giant warehouse might prove to be
adequate to provide supplies to consumers throughout a relatively small country.
• Primary producers, such as oil exploration companies and mining businesses, operate in
more than one location to avoid the risk of exhaustion of supplies from just one site. Very
large secondary manufacturing businesses also operate from more than one location,
despite the potential cost advantages from operating on one site.
• Banks, building societies, hotels, hairdressers and other tertiary service providers must
operate from more than one site if they wish to expand beyond a certain size by offering
convenient customer services in several locations.
 Differences between local, national and international location decisions

• Local location decisions refer to businesses that often have one branch or office and are
located close to the owner’s home. The business could actually be located in the owner’s
home, such as website designers or hairdressers who ‘live above the shop’. The business
owner’s desire to live and work in a particular place is the major influencing factor on
location.
• National location decisions apply to much larger businesses that operate several or many
branches in different regions of one country. This is the case for many supermarket groups
and other retailers who have expanded beyond just one local branch. The major influencing
factors for retail location decisions on a national level will be site costs, convenience for
customers and size of the target market in the region.
• International location decisions apply to businesses with operations in more than one
country – multinationals. The reasons for international locations are the same as those that
explain the rapid growth of offshoring
Reasons for and impact of offshoring

• This has become a very widely adopted approach to the location of business
operations. It has been encouraged by the trend towards globalisation and the
pressure on businesses to reduce costs to remain competitive.
• Reducing costs
• Labour wage rates in India, Malaysia, China and Eastern Europe are a fraction of those
in Western Europe and the USA, so it is not surprising that businesses wanting to stay
competitive often relocate operations to low-wage economies. Examples include:
• AMEX financial services, which offshored customer services (including call
centres) to India and the Philippines
• Ford Cars, which offshored IT systems to India
• Dyson, which offshored vacuum cleaner manufacturing to Malaysia.
• Supply of well-qualified workforce
• Low labour costs are not always the most important factor in international location
decisions. Skill levels and availability of qualified employees are important too. Countries
such as India, China, Pakistan and Malaysia, which have invested in education and training
of workers, have benefited most from companies offshoring operations to them.
• Accessing global markets
• Rapid economic growth in less-developed countries has created market potential for most
consumer products. Access to these markets is often best achieved by direct operation in
the countries concerned. This helps to explain Carrefour’s international expansion.
Carrefour’s supermarkets are now common sights in Thailand and Eastern Europe. Its
expansion in China has helped to compensate for slow supermarket sales growth in its
home country of France. Carrefour sources a high proportion of the products it sells in
these overseas countries from businesses located locally in those countries.
• Avoiding protectionist trade barriers
• Barriers to free international trade are rapidly being reduced. However, some still exist,
notably between the large trading blocs, such as the EU and Association of Southeast
Asian Nations (ASEAN). To avoid trade barriers on imported goods, operations can be
located within the country or trading bloc concerned. Toyota’s decision to assemble cars in
a factory in France was made, partly, to avoid trade barriers imposed on Japanese imports.
Other reasons for offshoring

• government financial support to relocating businesses

• overcoming problems from exchange rate fluctuations. It is difficult to make
pricing decisions for imported products when currency rates fluctuate
considerably. One solution is to locate production in the country where the
products are being sold.
 Reasons for and impact of reshoring

• The offshoring of business operations or processes has clear potential for increasing
business competitiveness. However, there can be problems. In recent years, there has
been a move by some companies to return offshored operations back to the head office
country. This is referred to as reshoring. The main reasons for reshoring are based on
the following limitations of offshoring:
1.Language and other communication barriers
Distance is often a problem for effective communication. For example, direct face-to-face
contact is less likely. This problem is made worse when some operations are abroad and
when company employees, suppliers or customers use different languages.
1.Cultural differences
Different consumer tastes, cultures and religious beliefs impact on marketing decisions
when selling products abroad. Cultural differences also exist in the workplace. Toyota found
that the typical Mexican worker is self-reliant and independent, yet the Toyota
manufacturing system depends greatly on teamwork and cooperation. Effective employee
training may be necessary to ensure that cultural differences do not prevent successful
overseas expansion.
• Product quality and level-of-service concerns
• This applies particularly to the offshored international customer call centres, technical support centres and business functions such
as accounting. Some business analysts argue that offshoring of these services has led to inferior customer service due to time
difference problems, time delays in phone messages, language barriers, and different practices and conventions (for example, with
accounting systems).
• Supply-chain concerns
• There may be some loss of control over quality and reliability of delivery with overseas manufacturers being part of the supply
chain. This reason is always cited by Zara, the clothing company, for their decision not to offshore clothing production to cheaper
countries. Fast fashion (getting new designs into shops quickly) requires very close contact with suppliers. Using JIT manufacturing
may become much riskier if important supplies have to be shipped thousands of miles to an assembly plant.
• Ethical considerations
• There may be a loss of jobs when a company locates all or some of its operations abroad and this may lead to a consumer boycott.
When Burberry clothing shut down its factory in Wales, there were claims by some pressure groups that the company’s decision
was not ‘the right thing to do’. In addition, many high street clothing retailers have been accused of sourcing supplies from Asian
factories that use child labour and very low-wage labour. Could this negative publicity cancel out the competitive advantage of
low-cost supplies? This important consideration is another reason why many businesses are considering rshoring some
operations.
Impact of globalisation on location and relocation decisions

• One of the main features of globalisation is the growing trend for businesses to
relocate completely to another country or to set up new operating bases abroad. Most
of the world’s largest corporations are now multinationals. Globalisation has made this
process easier by:
• allowing free movement of capital between countries
• reducing trade barriers to allow capital and consumer goods to be traded
more freely
• making it easier for businesses to legally establish subsidiaries and
operations in other countries.
1. The global recession in 2020 caused by COVID-19 has raised doubts in the minds of some analysts about the future of globalisation. This pandemic has
made governments and companies consider that:
• The freer movement of people around the globe as a result of globalisation makes controlling the transfer of viruses and other health
issues much more difficult.
• Overdependence on international suppliers or offshored operations should be reduced. When they are closed down by government
controls to stop the spread of disease, for example, supply chains fail. To avoid this, further reshoring of business processes can be
expected in future.
Scale of operations

• There is a huge difference between the scale of operations of a small business, perhaps
operated by just one person, and the largest companies in the world. Some of the latter
have total annual sales exceeding the GDP of small countries. In 2018, ExxonMobil recorded
sales of more than $279 billion, yet the GDP of Kenya, for example, was $88 billion.
• Factors that influence the scale of operations of a business include:
• owners’ objectives – they may wish to keep the business small and easy to
manage
• capital available – if this is limited, growth will be less likely
• size of the market the firm operates in – a very small market will not require
large-scale production
• number of competitors – the market share of each firm may be small if there are
many rivals
• scope for scale economies – if these are substantial, as in water supply, each
business is
• likely to operate on a large scale.
Increasing the scale of operations

1.The scale of operations can only be increased in the long term by employing more of
all inputs. The decision to expand the scale of operations of a business is a long-term
strategic one. There will be high costs involved (e.g. in purchasing land, buildings,
equipment and in employing more people) and the capital needed for this will always
have alternative uses. Business expansion, by employing more of all factors of
production, is referred to as an increase in the scale of production.
2.Businesses expand to increase capacity to satisfy customer demand, but they also
benefit from the advantages of large-scale production. These are called internal
economies of scale.
 Internal economies of scale
1. These cost benefits can be so substantial in some industries that small businesses are unlikely to survive due to lack of competitiveness, such as in oil
refining or soft drinks production. The cost benefits arise for five main reasons.
• Purchasing economies
• These economies are often known as bulk buying economies. Suppliers will often offer substantial discounts for large orders. It is cheaper for them to
process and deliver one large order rather than several smaller ones. They will also want to keep a very large customer happy due to the profits made
on the large quantities sold.
• Big firms employ specialist buyers who may travel the globe to obtain the best possible deals for materials and components at the lowest possible
prices. There is a growing trend of businesses buying supplies over the internet. This process is a form of B2B (business-to-business) trading. Cheaper
deals are offered if greater quantities are ordered.
• Technical economies
• Large businesses are more likely to be able to justify the cost of flow production lines. If these are worked at a high capacity level, then they offer
lower unit costs than other production methods. The latest and most advanced technical equipment, such as computer systems, is often expensive. It
can usually only be afforded by big firms. Such costs can only be justified when output is high, so that fixed costs can be averaged over a high number
of units. A lower level of output would raise the unit fixed costs. It is often the case that such equipment is indivisible: this means that it cannot be
purchased in the form of smaller models with a lower total capacity.
• Financial economies
• Large organisations have two distinct cost advantages when raising finance. Firstly, banks and other lending institutions often show preference for
lending to a big business with a proven track record and a diversified range of products. Interest rates charged to these firms may be lower than the
rates charged to small, especially newly formed, businesses.
• Secondly, raising finance by going public or by further public issues of shares for existing public limited companies is very expensive. Professional
advisers’ fees, prospectus publishing costs and advertising charges will not vary greatly whether it is a large or a small issue of shares. Therefore, the
average cost of raising finance will be lower for large businesses selling many millions of dollars’ worth of shares.
• Marketing economies
• Marketing costs obviously rise with the size of a business, but not at the same rate. Even small businesses will need a sales force to cover the whole of
the sales area. Using an advertising agency to design adverts and arrange a promotional campaign is expensive. These costs can be spread over a
higher level of sales for a big business and this offers a substantial economy of scale.
• Managerial economies
• Small businesses often employ general managers who have a range of management functions to perform. Business expansion provides finance to be
able to employ specialist functional managers who should operate more efficiently than general managers. The extreme case of a small business not
benefiting from this economy would be a sole trader managed by just the owner. The skills of specialist managers and the chance of them making
fewer mistakes because of their training is a potential economy for larger organisations.
Internal diseconomies of scale

• Diseconomies of scale are those factors that increase unit costs as the scale of
operations increases beyond a certain size.
• There are three main causes of these internal diseconomies of scale.
• ommunication problems
• Large-scale operations often lead to:
• poor communication of feedback from and to workers
• excessive use of non-personal communication media
• communication overload because a great number of messages are sent
• distortion of messages caused by the long chain of command.
1.Alienation of the workforce
2.The bigger the organisation, the more difficult it becomes to directly involve every
worker. This can lead to a lack of a sense of purpose and achievement in their work.
Employees may feel so insignificant to the overall business plan that they become
demotivated and fail to give of their best.
1.Poor coordination
2.Business expansion is often associated with a more complex organisational structure,
with more departments, divisions and products. The number of countries a business
operates in often increases too. Senior management will have difficulties coordinating
and controlling these operations to ensure that all divisions of the business are aiming
to achieve the same objectives.
Are internal diseconomies of scale avoidable?
hree approaches could be used to overcome the impact of potential diseconomies:

• Management by objectives: This will assist in avoiding coordination problems by

giving each division and department agreed objectives to work towards that are
components of the long- term aims of the whole business.
• Decentralisation: This gives divisions a considerable degree of autonomy and
independence. Divisions are operated more like smaller business units. Control is
exercised by managers with direct experience. Only significant strategic issues need to
be communicated to the head office as they might be the only issues requiring
centralised decisions. The main problem is that decentralised business units must
avoid pursuing conflicting objectives as this results in poor coordination.
• Reduce diversification: Some analysts suggest that moving to a less diversified
business that concentrates on core activities may help to reduce coordination problems
and communication problems. This could be achieved by a demerger. This divides a
business up into two or more separate units, which are managed and controlled as
independent businesses. This reduces the risk of all of the diseconomies of scale
occurring.
External economies of scale

• It is common for businesses in the same industry to be clustered in the same region.
Silicon Valley in the USA and Bengaluru in India have a very high concentration of IT-
focused businesses. All IT firms in these regions benefit from the attraction of a pool of
qualified labour to the area. Local college and university courses focused on IT increase
the supply of suitable employees. A network of suppliers is already likely to exist,
which should result in lower component costs. It is easier to arrange cooperation and
joint ventures when the businesses are located close to each other. These factors lead
to cost advantages and are referred to as external economies of scale.
External diseconomies of scale

• If an industry continues to grow in one location it can lead to cost increases for
businesses. There will be increased demand for land or property and increased demand
for suitable labour. These demand pressures will cause unit costs to rise for businesses
in the industry operating in this location. These cost disadvantages are called external
diseconomies of scale.
Economies and diseconomies of scale and unit costs
The combined effect of economies of scale and diseconomies of scale on unit (average) costs of
production is shown

• t is important to point out that there is not one particular point of operation at which
economies of scale cease and diseconomies begin. The process is much more difficult
to measure than this. Certain economies of scale may continue to be received as scale
increases but at the same time there will be some diseconomies. The significance of
diseconomies gradually increases with bigger scale, and average costs may rise
Exams questions
Economies of scale
march/2017/p1

Q4a) define the term ‘economies of scale’ [2]

a) Briefly explain two causes of ‘diseconomies of scale’. [3]

November 2019 Paper 12

a) Define the term ‘diseconomies of scale’. [2]

b) Briefly explain 2 functions of an operations management department. [3]
Business location
November. 2019 paper 13

(a) Define the term ‘business relocation’ [2]

(b) Briefly explain two reasons why a business might decide to relocate.