EXPERIENCE CURVE AND ITS CAUSES
EXPERIENCE
CURVE AND WHAT IS THE CAUSES OF EXPERIENCE CURVE EFFECT ?
Cost
has been correlated with the accumulated experience (of say production) by the Experience
Curve Effect. The underlying principle behind the experience curve is that as
total quantity of production of a standardised item is increased, its unit manufacturing
cost decreases in a systematic manner. The concept of the experience curve was
presented by BCG in 1966 and since then it has been accepted as one of the important
phenomenon.
The experience
curve is a rule of thumb. It says “costs of value added net of inflation will
characteristically decline 25% to 30% each time the total accumulated
experience has been doubled” (Henderson, 1989). This is also known as
learning curve. Initially, this inverse relationship was discovered for the
learning costs which are the costs for direct labour input in the manufacturing
cost. Thus, as the production of a particular item (such as aircraft
components) increased, the quantum of time of direct labour component to make
each of these successive items declined. This helped the aircraft manufacturers
to predict the cost of man-hours required to manufacture in future, say the
number of aircraft, and helped them to fix the price accordingly. The
Experience Curve Effect phenomenon, where costs fall with accumulated volume of
experience, was known to industrial managers for many years. It took momentum
as a tool in business strategy after Boston Consulting Group (BCG) provided the
concept.
Let
us take an illustration to understand this concept. When one starts the
production of a new product (2 units), the unit cost is, say Rs. 100. Then, as
the accumulated production volume reaches 4 units, the unit cost is reduced by
say 20%, to Rs. 80. Furthermore, as the accumulated production reaches 8 units,
the cost gets reduced by another 20%, to only Rs. 64, and so on. This trend has
been tabulated in Table -1
Table-1 : 80% Experience Curve
The data of this table when plotted on a plain graph, it gives an 80% Experience Curve, as shown in Figure-1. The Experience Curve has a hyperbolic shape.
