Life is all about balance. You never want to try to carry more than you can hold. You don’t want to bite off more than you can chew. In business, you don’t want to expand faster than you can maintain.
As we’ve seen with the mass layoffs in the tech industry, there comes the point where having too much of a particular piece of production (usually employees) becomes a detriment to the company’s bottom line. The most evident red flag for hitting that point is when you begin to see diminishing returns when hiring.
What exactly are diminishing returns? It’s the easiest way to know when you’ve gone too far.
What Are Diminishing Returns?
The Oxford Dictionary defines diminishing returns as “proportionally smaller profits or benefits derived from something as more money or energy is invested in it.”
What’s that actually mean? Basically, as you try to grow a business and gather more resources to increase production, you will hit a point where less is more. This can take shape in multiple ways, but the bottom line is always the same: you’re not getting the same efficiency, and it’s likely costing you money.
- You have too many employees.
- Your supply is greater than the demand.
- You have underutilized equipment.
Let me paint the picture for you. You start a food truck. It’s just you, your dad’s burger recipe, and any local corner or parking lot that will let you flip those patties. As you grow in popularity, you’ll likely need help. You hire another cook and see your profits soar! You think, “adding one person doubled my output, so hiring a third should triple it!” After a third hire things improve, just not as much. The truck is a bit crowded now. You’re making money, sure, but it’s not the same as when you hired that first person.
That scene is what diminishing returns look like in real life. Your first attempt at expansion saw your production/output double but the second maybe gave you a 25% increase. Not only that but from a quality of life standpoint, with the finite space of the truck, things just aren’t as comfortable as they once were.
As stated earlier, it doesn’t always have to be the human factor driving this production drop. Maybe you bought more meat than you needed because you thought the business would blow up. Sure, the first time you increased your supply to meet the new demand was right on point, but you misjudged that continued growth and ended up with more product than necessary. Again, you can still make a profit, but less than before.
Preventing/Solving Diminishing Returns
Here at Nav.it, we like to be solution-oriented. Clearly, this is a problem no one would want so how do we fix it, or better yet prevent it from happening?
- Slow, measured growth
- Use analytics to monitor input vs output
- Decrease overloaded areas of production (again, usually employees)
An opportunity isn’t truly an opportunity if you’re not ready. Though having a meteoric rise with your new company is exciting, spreading yourself thin will only hurt in the long run. This is commonly seen in franchising industries (like fast food). Having 50 restaurants from coast to coast sounds incredible until you have to start shutting them down and laying off employees because you hired and spread faster than you could handle.
Using analytics can help you prevent company burnout. When you hire someone new or install new equipment, watch the numbers. Note where the output starts to dip, so you know not to go further without balancing other production factors. For instance, having three burger cooks is pointless if only two spatulas exist.
Finally, cut back on the extras. If you have more equipment than necessary, try selling it to get some funds back. If your overhead costs are too high, try to find ways to cut back on utilities. Unfortunately, it is more likely that letting employees go will be the easiest way to balance the scales. It is much better to prevent diminishing returns than try to fix them. For everyone’s sake.
Diminishing Marginal Utility
On the other side of the business coin, consumers can experience diminishing marginal utility. Instead of looking at the means of production and how the input affects output, we look at what point buying/consuming something stops being a benefit/brings enjoyment.
The easiest way to look at diminishing utility is with food. Almost everyone has a favorite food. Mine is easily sushi. That would be my desert island food, my last meal, which I would never eliminate in a “one’s gotta go.” If I ate it EVERY day, though, it just wouldn’t be the same. The excitement of going out and having a great meal once in a while would eventually be replaced with the same feeling I have about a cheese sandwich. Yeah, I like it, and it tastes good, but there’s no magic.
Of course, the easiest way to prevent that bleak future is moderation. I go to my favorite sushi place once. . .maybe twice a season and I love it now as much as the day I found it. Having something to look forward to is key to getting out of bed in the morning. No matter how small it may be, that something, when enjoyed in moderation, can be one hell of a motivator.
The Wrap Up
So, how do you know you’ve gone too far? When you add more to your business and get less out of it. That is diminishing returns in a nutshell. Keep going on that path, and you’ll get negative returns. Essentially, the evolved form of diminishing returns. At the end of the day, it’s going to be about watching your numbers, making adjustments where needed, and just being honest with yourself about what you can handle. You can do it. Take your time and do it right. You deserve what you wish to achieve in life. Now go out there and get it!
Scared Money Doesn’t Make Money