The Economics Of The Brick Cycle and Its Effects on Firm and Industry Structure
THE PRODUCTION OF BRICKS
The most significant feature of the supply of bricks in the U.K. is a technical one:
this is the existence of two different manufacturing processes which, because they produce bricks of such different quality and texture, have also created two separate markets for bricks which only partially overlap with a limited degree of product substitution.
The two production processes, Fletton and Non-Fletton, also give their name to the bricks they produce. Fletton 1 bricks are made form Lower Oxford clays: this type of clay has certain qualities of stiffness which enable it to be “stamped” into the shape of a brick under high pressure. As such, the process uses clay “straight from the ground” with no processing and no added water. The “green” or unfired bricks are therefore placed in the kilns with no pre-drying. In addition the clay, having high carbon content, is able to provide most of the heat needed to burn the bricks – only 25% being supplied externally. The process is also particularly easy to automate because the bricks produced are all of precise size and shape.
For these reasons, bricks made using the Fletton process are particularly cheap to produce. However, this cheapness is at the expense of the external appearance of the brick, and its ability to withstand great external stresses.
The problem of external appearance has been partially overcome by the development of techniques which artificially “face” the bricks with sands and chemicals. These “Fletton facings” as they are known, are where the market for Fletton and non-fletton bricks overlap. However, because of the still inferior appearance of the Fletton, price competition between the two sectors is still rather limited.
Non-fletton bricks are made using clays which, because of their texture, have to be worked in processes which are far less efficient than the Fletton process. These plastic and semi-plastic processes require the clay to be moist. This moisture then has to be dried out of the “green” bricks before they can be placed in the kiln. The bricks produced are less regular in shape and therefore usually have to be handled individually at all stages of production; this is both costly and time-consuming. Most clays used in non-fletton bricks contain little carbon material. The bricks are therefore more expensive to burn.
(The “Fletton” process was invented in Fletton, near Peterborough in 1891.)
Non-fletton bricks therefore suffer considerable cost disadvantages to fletton bricks.
However, because of the much more acceptable appearance of the finished brick-work, which is prized by both council planners and architects, all non-fletton bricks are able to command higher market prices, which are enough to compensate for their higher unit costs or production. These higher prices help to explain the continued existence of the non-fletton industry, even after the Fletton process was invented.
The long-term costs acing individual firms in the brick industry are somewhat unusual. This is because brick plants have a very long working life 1, occasionally being kept in use for over 50 years without extensive repair work. This longevity of plants within the industry has three main causes: i) rates of technological progress are relatively slow, within such a “basic” industry and thus existing plants do not become outdated very quickly. ii) high capital costs of new plants give the old plants considerable cost advantages, iii) the machinery used is of a “heavy” but simple nature, pug mills for example, and as such, have quite long working lives anyway and are cheap to maintain.
Existing plans however, are impossible to change in layout or design. Therefore, it is possible to design new “ greenfield” brick-yards that are able to produce bricks with lower unit variable costs because they incorporate modern handling techniques. However, the high capital costs of these new yards means that many of these running cost savings are lost and total-unit costs are sometimes higher in modern plants than they are in older ones. Pratten 2 in 1971 produced a cost analysis of two yards, one of which was new and the other was 40 years old.
The new plant studied had two kilns and a capacity three times greater than the old plant. The cost breakdown included depreciation on plant but excluded interest payment on capital borrowed. Pratten found that: “total woks costs per unit were approximately the same for the two works” 1, simply because the gains made from improved efficiency in the new yard were completely offset by capital write-downs for the new plant. (These are of a large size because the scrap value of machinery is much less than its initial cost. The book value of the machinery in the old plant on the other hand, has already approached its scrap value.) The cost breakdown can be seen in
Table 3.1. Brick production costs (including depreciation and excluding interest in capital) at two yards where total unit costs are approximately the same.
Source: Pratten, Economics of Scale, 1971, P.97.
The fact that interest charges are not included led Pratten to conclude that of a charge had been made for these, unit costs for the new plant would have been much higher than for the old plant. 2
From this breakdown of costs it is possible to conclude that Minimum efficient scale (m.e.s.) data is important only for new Greenfield brick yards rather than older less efficient yard, which are not therefore threatened on cost grounds by new plants.
M.e.s. levels are therefore of importance to the brick industry but only in the longer-term, as worn-out plants are replaced gradually by modern ones.
This has serious long-term implications for the brick industry in terms of average plant size and industry concentration.
Minimum Efficient Scales of New Brick WorksThere are two main constraining factors which have to be considered when building a new brick yard. Firstly, any proposed yard must be sited on, or near clay reserves which are large enough to supply the plant, at its proposed capacity, for at least 20 to 5 years, 1 in order to give it time to pay for itself. The new plant is thus limited in size by the volume of its estimated clay reserves.
The second limitation on any new plant’s size is transport costs the bigger he plant, the larger the average distance between it and the market will be. As bricks are a high volume to revenue material, these diseconomies of scale might start to outweigh some of the benefits of a very large plant.
As already mentioned, minimum economies of scale (m.e.s) for the fletton and non-fletton industries are different. Lower Oxford clay tends to be found in much greater quantities than other types of clay. In addition, the Fletton process itself is easier to incorporate in very large scale operations. As such, different estimates of the m.e.s. Levels in the two industries have to be made.
The following estimates of m.e.s. Are based on the assumption that the bricks
produced by the new plant would command average prices. Smaller, new yards can be built if the bricks produced were able to be sold at a price-premium.
This is often the case with existing yards that produce bricks which are sought after because of certain qualities, usually a certain colour or mixture of colours.
The first study of m.e.s. Levels in the non-fletton industry were made by Miss P.L.Cook 2 in 1961/62. She estimated that the m.e.s. Of a new plant were 25 million bricks per year. C.F>Pratten 3 in 1971 was able firstly to confirm this estimate of m.e.s. From “a source within the industry”. Table 3.2 shows figures obtained.
M & M.C. A Report on the Supply of Building Bricks. Para.66
Table 3.2. Costs for New Tunnel Kilns
Source: C.F. Pratten, Economies of Scale, P.99.
Secondly, Pratten found that further economies were probably possible beyond a capacity of 25 million bricks/year. This was the capacity the new kilns had raised since Miss Cook made her survey. In the U.S. for example, kilns were being produced with capacities of 100 million bricks /year. No figures were available at the time however and because of this, Pratten was unable to reach a firm conclusion as to the economies of scale beyond 25 million bricks/year.
A. Silberston came to very similar conclusions also suggesting 25 million bricks/year as the m.e.s. of new non-fletton brick plants. He also thought this was a conservative estimate. Similar conclusions to Pratten’s were made as to costs at 50% of m.e.s.: Silberston suggested tat unit costs of such a plant would be 25% higher than those of a plant of m.e.s. It can therefore be said that significant economies of scale exist when plant capacity is increased up to 25 million bricks/week.
The forth major study of m.e.s. Levels within the non-fletton industry was made by the Monopolies and Mergers Commission (M & MC) in 1976. 1 They were supplied with evidence to suggest that economies of scale continued beyond capacity levels of 25 million bricks/year. The commission, like the previous studies, assumed that the smallest indivisible factor of brick production was kiln size. In 1976, the most efficient kiln was sill thought to be one with a 25 million bricks/ year capacity.
M & MC. A report on the Supply of Buildings Bricks. Chapter 4.
However, the most efficient extruder available at that time had increased in size to 25 million bricks/year output, on a one shift basis. The M & MC were told that significant cost savings would be derived by working a second shift. Such a move would require a second 25 million bricks/year kiln to be built. Thus, unit costs of such a plant would be smaller because only one extruder would be required. Estimates were obtained by the M & MC from sources in the industry, as to the capital costs of the two types of yard;
25 million bricks/year plants were thought to cost something of the order of £1.5 million, whilst capital costs for 1-extruder, 2-kiln, 50 million bricks/year plants were thought to be of the order if £2.5 million. 1
The M & MC also looked at possible cost savings of even larger plants producing 75 million bricks/year and 100 million bricks/year, but concluded that although cost savings could be derived from these scales of production, they would be of diminishing nature and, “overall, it would not appear that significant cost savings would be found in works larger than 50 million bricks/year and that any such savings might well be offset by non-productive disadvantages”. 2. These production disadvantages were mainly those caused by increased transport costs, as the average distance to the plant’s markets increased.
The four studies make of the non-fletton industry came to broadly similar conclusions as to 25 million brick/year capacity being the industry’s m.e.s. However, the advantages of the 50 million bricks/year plant appeared to grow as technological improvements were made with time. It can be seen from Table 3.3 however, that even this size of plant would represent only a small proportion of total output within both the non-fletton and the total brick market.
Table 3.3 MES of Non-Fletton Yard as % of Brick Market.
It can therefore be said that m.e.s. Levels present in the non-fletton industry are not of immediate importance to levels of market concentration in the industry. They will however, cause a gradual upward trend in market concentration levels, as older plants are replaced with new, increasingly larger ones.
Very few investigations have been made into the m.e.s. Levels in the fletton-brick industry. Pratten was only able to make estimates of economies available on quarrying costs, suggesting that draglines with capacity equivalent of 300 million brick/year 1 were the most efficient. He made no estimate of overall m.e.s. Levels as he was unable to obtain any.
The only detailed study of m.e.s. Levels in the fletton industry were made by the M & MC in 1976. 2 Here they found that, as in the non-fletton industry, the output capacity of any new yard had to be a multiple of the output of the most efficient kiln available. In 1976, this was thought to be 62.5 million brick/year.
The London Brick company provided estimates of the number of men required to operate the various possible plant sizes: 80 men were said to be required for a 62.5 million bricks/year plant, 138 men for a 2-kiln 125 million bricks/year plant and 250 men for a 4-kiln 250 million bricks/year plant. These labour savings were derived, as in the non-fletton industry, from certain jobs within the plant which require a fixed number of men regardless of the capacity of the yard; for example men operating pans, hoppers, pit conveyors and pit hoppers. 3
In addition to the savings on unit labour costs, the M & MC also found that unit capital costs were reduced by building larger plants for two main reasons: 4 firstly, all the kilns, regardless of number, in any one yard can all be linked to the same smoke-stack. Secondly, only one conveyor need be built between the clay pit and the yard, regardless of the capacity of the yard. In 1974, LCB thought that a 62.5 million brick/year plant would cost £ 1 million, a 125 million bricks/year plant would cost £1.9 million, and a 250 million bricks/year plant would cost £3.6 million.
Pratten. Economies of Scale in Manufacturing Industry. P. 99.
The M & MC therefore concluded that the m.e.s. Of a new Greenfield Fletton plant would be 250 million brick/year. Beyond this, some capital cost savings but no labour savings (more machine-minders would be required because of the sheer size of the operation) would result. However, the M & MC found that any such capital savings would probably be more than offset by increased unit transport costs.
Table 3.4 shows the estimated m.e.s. of a new plant as a percentage of yearly fletton output and yearly total brick output.
Table 3.4. MES of New Fletton Plant as % of Brick Markets.
The table shows that, unlike the non-fletton brick industry, m.e.s. Levels in the fletton industry do represent a significant proportion of both the fletton and the total brick markets. As such, m.e.s. Levels could have significant effects on concentration. Firstly because, at 1982 demand levels, at most 5 or 6 plants of m.e.s. Capacity (and therefore 5 or 6 firms (could exist in the fletton market, and at the same time, maintain capacity output. Secondly, the size of m.e.s. Represents a serious barrier of entry to new firms. Indeed, the m.e.s. Levels are useful in explaining the rise in concentration in the fletton industry which occurred between 1968 and 1973, and the 100% monopoly that exists in the industry for the London Brick Company today.
The brick industry is one in which there are significant fluctuations in levels of
demand over short periods of time. In addition, it is one in which the lead time for a new plant to attain full production is at least 18 months. 1 Once in existence, brick plants are such that they are very difficult to alter in both layout and capacity.
These facts make the short-term cost structures of the industry particularly interesting because they have significant effects on the day to day running of the firm and also on its behaviour in the long-term. No significant study of U.K. cost structures could be found. However, in 1964, Richard S. Bower 1 made a study of individual brick yards in the United States. The results he obtained and the conclusions he came to are useful in considering the U.K. industry because brick plants themselves do not differ much between industrial countries (some plant is imported from the U.S. and vice versa). 2 Relative cost structures do differ through because labour is cheaper in the U.K. than in the U.S. Despite this, it is most unlikely that Bower’s findings would have been significantly different if he had been looking at a U.K. plant.
Bower studied a single extruder, single production line plant producing 12 million bricks/year. In this, he found that total costs were made up predominantly of labour and capital costs. At the same time, raw material (i.e. the clay) costs made up a small proportion of total costs. In addition, each yard could only produce on good; a certain type of brick, and thus could not switch to producing an alternative product when the demand for bricks was low. Bower found that there was a continuous manufacturing process in the yard, with each production step relying on the successful completion of the previous one. This meant that labour indivisibilities existed, whereby certain production steps had to be manned al all times when the bricks were produced, regardless of output levels. This had serious effects on manning levels as the same number of men were required to produce output at 1% capacity, as were required to produce output at 30% capacity.
In addition to these labour “indivisibilities”, Bower found that only limited flexibility was possible in the use of certain machinery in the production process. This was most notable with the continuous flow tunnel kilns, since these were found to be efficient only at full capacity, so much so that they required almost as much fuel to produce 80% capacity as 100% capacity output.
Bower found that short-term workings of the yard were dominated by the fact that a large proportion of total costs were made up of capital and non-variable labour costs. This, combined with the fact that significant economies of scale were available in the use of the kilns, meant that the marginal costs of the yard were decreasing throughout the yard’s production range. 1 This can be seen from Table 3.5 below.
The statistics that Bower obtained on his yard show quite clearly that marginal costs decreased throughout its full observable range of production. Appendix 1 includes a cost study of a small Buckinghamshire brickyard, made for the purposes of this dissertation. This confirms Bower’s results, since this yard also experienced decreasing marginal costs below its capacity output despite the fact that, unlike Bower’s yard, no economies of scale were experienced in the kilns with regard to unit fuel costs.
In addition to the results obtained on costs below capacity output, Bower’s study also found that the inflexible nature of continuous flow tunnel kilns meant that more bricks could not be produced beyond capacity output. This fact was not confirmed by the study made of the Bettington brick yard, since this yard did not use continuous flow kilns. However, the vast majority of brick plants in the U.K. do use similar kilns. 2 In these plants therefore, it is very difficult to produce bricks in the short-term above this capacity.
These two findings, that marginal costs for individual brick yards are lowest at capacity output, and capacity output for the vast majority of individual yards cannot be exceeded in the short0term, means that the production of bricks from most yards is very inflexible in the short to medium-term. Thus, with their most (or only) profitable levels of output being fixed at, or near capacity output, most individual brick yard’s supply curves will be very price inelastic.
Bower concluded that as a result of this, cut-throat competition was threat inherent in the brick industry’s cost structure and: as a result, price discipline is highly prized and price stability readily accepted. Collective action has sometime been used to assure discipline, but generally, the hazards of deviation have been enough to keep individual firms from pursuing aggressive price policies that might disturb the precarious market balance. 1
See also, M & MC, Building Bricks, June 1976, P.18 and 19 for similar general conclusions on the cost structures of individual plants.
Interview, P.Bryant Esq. B.B. Mathews Ltd. 1984.
Table 3.5. Estimated cost per day to operate a brick plant with 50,000 bricks per day capacity, using periodic round kilns at less that full capacity.
In other words, individual brick yards would find it very difficult to exist in competitive markets and would therefore tend to group themselves together to form some kind of oligopolistic market. Bower produced evidence of this by citing historical evidence pf price stability that existed in the brick markets of many U.S. cities, 2 which he said, could not be explained, given that the cost structure of brick plants, by anything other than collective price action.
Bower’s findings when applied to modern plants
The possibility if obtaining similar results to Bower’s in a study of large modern yard may be limited for the following reasons:-
1) It is unlikely that a firm with knowledge of the fluctuating demand that exists in the brick industry would today build a plant quite as inflexible in its output levels as was Bower’s plant. Some flexibility in operation would almost certainly be build-in. Indeed some plants, mainly in the fletton sector, are today built with more than one production line (unlike Bower’s). Thus, the marginal costs of such a new plant would more likely be constant throughout its full range of production.
2) The cost of clay, in the accounting system used by Bower is equal to the cost of extracting it. If, however, the clay was, more realistically, thought of as a nonrenewable natural resource and priced as such. 3 then the cost of clay and therefore total variable costs would represent a larger proportion of total costs. Any such accounting change would therefore tend to make marginal costs more constant over the plant’s production range.
R. Bower. “Decreasing Marginal Costs in the Brick Industry,” J.I.E. P.9
Because the above two points tend to make marginal costs more constant, it does seem unlikely that modern plants would have such downward sloping marginal cost curves as Bower suggests. However, the two points do not distract from the value of Bower’s findings since high capital costs, of new plant, would probably assure the fact that marginal costs throughout the plant’s production range were still decreasing, if only slightly. The effects of Bower’s findings on industry concentration, particularly in the past, are analysed in chapter 4, section 2.
Brick production is divided into two sectors, fletton and non-fletton. The processes used have undergone only slow rates of technological change which is tempered both by the high importance of capital costs to the industry and by the long life of existing plants.
Levels of production are difficult to alter in the short-term, firstly because the capacity of plants cannot be exceeded, and secondly because marginal costs are decreasing at all levels of output up to capacity. The problems this causes in an industry where demand fluctuates quite widely in the short-term means that short-term aspects of production probably have more effect on both firm and industry behaviour than do long-term aspects of production. This can, to some extent, be seen from the following chapter which investigates the rise in market concentration that has occurred in the brick industry.
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