Diminishing returns are the point in which the resources utilized in a particular effort no longer return enough reward in order to justify the use of those resources. In terms of business, this often means the breaking point at which the current cost of production and marketing ceases to be generate a reasonable profit for the company. Just about any good or service has some point where the resources exerted in supplying the product ceases to be in the best interest of the manufacturer.
The economic theory behind the diminishing return is relatively straightforward. Essentially, the idea of a diminishing return states that when an equal amount or quantity of one factor is increased and other factors remain the same, there will come a point where the work involved to perform a task ceases to be as profitable. At that juncture, the producer has a decision to make. Is it worth reevaluating the use of resources in an effort to restore the former profitability for each unit produced, or would it be better to abandon the production altogether?
One key advantage of identifying this point of diminishing return well in advance is that it allows producers of various goods and services to take steps in advance to avoid ever coming close to the point where returns are minimal at best. Reviewing cost of production and comparing it to units sold in the same period provides a rough idea of how much profit is made from the production effort. This makes it possible to spot trends where the profit or return is decreasing and thus moving closer to the point of diminishing returns.
When such a trend is identified, the production process can be reviewed and strategies employed to cut costs and thus restore the profit earned from each unit produced to a higher level. At the same time, resources such as marketing efforts can also be evaluated, with an eye toward expanding the demand for the product. This can also help to increase the profit margin and thus move the product away from this point of diminishing return.
Maintaining a reasonable balance between the input of resources to produce goods and services and the output of enough product to generate a sufficient product is the goal of just about any company that wishes to stay in business. By calculating the point of diminishing return and making sure to keep a credible distance away from that point, the company has a much better chance of remaining successful.
