The Long-Run Average Cost Puzzle

47 Pages Posted: 25 May 2018

See all articles by Aytekin Ertan

Aytekin Ertan

London Business School

Stefan Lewellen

Pennsylvania State University

Jacob K. Thomas

Yale School of Management

Date Written: May 1, 2018

Abstract

It is common in business analyses to invoke different efficiencies generated by scale and assume that costs grow at a slower rate than sales as organizations grow. Factors cited include the relatively fixed nature of many costs and increased bargaining power. Growth should thus be associated with declining average costs/sales and higher profit margins. We investigate how average costs/sales for different cost items evolve for a sample of US firms after their IPO. To our surprise, we find that costs/sales remains relatively unchanged, even during the early years when growth is high. Similar results are observed for other samples of domestic and overseas firms, both public and private. We speculate about possible explanations for our results and discuss implications, especially for financial projections and cost allocations.

Keywords: scale economies; scale efficiencies; average cost; marginal cost; fixed cost

JEL Classification: M41, M13, G30, D24

Suggested Citation

Ertan, Aytekin and Lewellen, Stefan and Thomas, Jacob Kandathil, The Long-Run Average Cost Puzzle (May 1, 2018). Available at SSRN: https://ssrn.com/abstract=3178202 or http://dx.doi.org/10.2139/ssrn.3178202

Aytekin Ertan

London Business School ( email )

Sussex Place
Regent's Park
London, NW1 4SA
United Kingdom
442070008131 (Phone)

Stefan Lewellen

Pennsylvania State University ( email )

360 Business Building
University Park, PA 16802
United States

Jacob Kandathil Thomas (Contact Author)

Yale School of Management ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States

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