experience-curve

What Is The Experience Curve And Why It Matters In Business

The Experience Curve argues that the more experience a business has in manufacturing a product, the more it can lower costs. As a company gains un know-how, it also gains in terms of labor efficiency, technology-driven learning, product efficiency, and shared experience, to reduce the cost per unit as the cumulative volume of production increases.

Understanding the experience curve

The Experience Curve was developed in the 1960s by The Boston Consulting Group who observed the phenomenon in the manufacture of semiconductors. 

They found that the value-added production cost declined by as much as 20 to 30% each time the total manufacturing output doubled. In this context, manufacturing output was directly related to experience. In theory, experience then allows a company to further reduce production costs and gain a competitive advantage in the process.

In terms of the fundamental core processes that power the Experience Curve, consider the following:

  • Labor efficiency – employees who perform the same job repeatedly will naturally become more skilful and efficient. Confidence also grows and as a result, they make fewer errors which increases productivity.
  • Standardization and specialization – skilled employees with experience then contribute to standardizing processes. They also streamline the use of required tools, techniques, and materials.
  • Technology-driven learning – with more time, streamlined processes are fed into technology, further increasing the level of experience that a business has in manufacturing a product.
  • Product efficiency – when a company has enough experience to bulk produce goods and services, they achieve product and thus cost efficiency.
  • Shared experience effect – at this point, the company can apply their skill and experience in manufacturing one product into the manufacture of a related product. This potentially shortens the learning curve and fast tracks their ability to reduce costs with experience.

Examples of the Experience Curve

Perhaps the most well-known example of the Experience Curve can be seen in the development of the Model T Ford. 

With the benefit of 11 years of assembly experience, Ford cut production costs of the Model T and increased its market share from 10% to 55%. This was achieved by modernizing plants, vertical integration and eliminating model changes. Ford even went as far offering the Model T in black only, since black paint dried the quickest and therefore increased the speed of production.

Contact lens maker Bausch & Lomb consolidated their market position by computerizing lens design and expanding their plant to facilitate greater productivity. Arc welding supply company Lincoln Electric also encouraged experienced employees to create policies that would increase efficiency.

Limitations to the Experience Curve

The Experience Curve does suffer from limitations, particularly if certain aspects of the business are mismanaged. 

Potential limitations include:

  • A lack of mentors or skilled employees who can contribute their experience to improving company processes.
  • Mistaking the Experience Curve with future potential. While the curve does lead to reduced costs, it does not make any guarantees. Companies with poor management who suffer from negative external factors may find it difficult to reduce costs significantly.
  • Reliance on product relevancy. When a product becomes obsolete or falls out of favour with consumers, any cost reduction the company previously enjoyed will be eroded due to falling sales and lower profits. The company must then start the process again.

Key takeaways:

  • The Experience Curve refers to the graphic representation of the inverse relationship between the total value-added cost of a product and the experience the company has in manufacturing it.
  • The Experience Curve is powered by at least five fundamental mechanisms that emanate from a skilled and experienced workforce. 
  • The Experience Curve has several limitations because it relies on a skilled workforce and favourable product sales.

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Published by

Gennaro Cuofano

Gennaro is the creator of FourWeekMBA which target is to reach over two million business students, executives, and aspiring entrepreneurs in 2020 alone | He is also Head of Business Development for a high-tech startup, which he helped grow at double-digit rate | Gennaro earned an International MBA with emphasis on Corporate Finance and Business Strategy | Visit The FourWeekMBA BizSchool | Or Get in touch with Gennaro here