Lecture note on The Learning Curve Effect

Date: Sept 2005

Author: Drs. I. de Vries

Key learning objectives

• Understand the background and importance of the learning curve.
• Understand the applications of the learning curve within the field of management accounting.
• Being able to calculate the required labour time for a given production volume, based on both
the graphical and the mathematical methods.

Background and importance of the learning effect

From the experience of aircraft production during World War II, aircraft
manufacturers found that the rate of improvement was so regular that it
could be reduced to a formula, and the labour hours required could be
predicted with a high degree of accuracy from a learning curve. Based on this
information, experiments have been undertaken in other industries with
learning curves, which also indicate some regularity in the pattern of a
worker’s ability to learn a new task.

In most organisations learning processes take place. While people learn more
about how to make a certain product, or how to deliver a certain service,
errors and cycle times decrease. Learning effects are apparent in most
processes. The strongest learning effects, however, can be found while
introducing new products or processes. After producing a product for the first
time, the second product is usually produced more quickly than the first, and
so on, because of the required experience.
Learning processes play an important role in Total Quality Management
(TQM) literature. Although some TQM scholars (e.g. Crosby) state that
learning and improvement opportunities are unlimited, other TQM scholars
(e.g. Juran) state that at some point in time an equilibrium is found; after
that moment striving for greater improvement requires such an effort that
the benefits will not outweigh the costs. Companies that have implemented
TQM concepts sometimes use job rotation in order to stimulate learning. By
job rotation, employees become more aware of the influence of a certain
production phase or activity to the other phases and activities required to
make a product and hence are more inclined to eliminate production errors.
Another possible benefit of job-rotation is cross-fertilization and the sharing
of experience amongst each other.

Based on the above, you can imagine that learning effects can differ amongst
organisations. The size of the learning curve effect depends on the type of
products and processes, the place of the product in the product life-cycle, the
type of workforce, and to what extent employees are stimulated to learn and
improve.
Learning curve applications within management accounting
In the field of management and cost accounting the learning effect is
important: (1) when making cost estimations and assessing cost behaviour
as a basis for pricing decisions, (2) for setting standards and performance
targets and (3) for work scheduling.

1. The main impact of the learning curve is likely to be in providing better

cost predictions to enable price quotation to be prepared for potential
orders. In this perspective the learning curve plays a role within the field
of strategic management accounting, which could be defined as, “the
provision and analysis of financial information on the firm’s product
markets and competitors’ costs and cost structures and the monitoring
of the enterprise’s strategies and those of its competitors in these
markets over a number of periods”.1 The learning curve could be used for
obtaining strategic advantage by forecasting cost reductions and
consequently selling price reductions of competitors. Besides that, the
concept can be helpful when assessing the effect of early experience with
a new product as a means of conferring an unbeatable lead over
competitors. The leading competitor should be able to reduce its selling
price for the product (through the learning curve effect) which should
further increase its volume and market share and eventually force some
weaker competitors out of the industry.

2. Learning curves enable firms to predict their required inputs more

effectively and this enables them to produce more accurate delivery
schedules. This, in turn, can lead to improved customer relationships and
possibly result in increased sales.

3. If budgets and standards are set without considering the learning effect,
meaningless variances are likely to occur. For example, if the learning
effect is ignored, inappropriate labour standards will be set that can be
easily attained.

Methods and instruments

While modelling the learning effect in management accounting, we usually
use the so-called cumulative average time learning curve. This is model of a
learning effect in which the time it takes to produce all products is decreased
by a certain extent when the cumulative production volume is doubled.
Another model is the unit incremental time learning curve; a learning effect
in which the time for producing only the last unit of product decreases, while
the time required for manufacturing the products before that last item is not
influenced.
Since the cumulative average time learning curve is most widely used, in this
lecture note only this model is explained.2

1
Bromwich, 1990, p.28.
2
Those students that wish to learn more about the unit incremental time learning
curve are referred to Horngren et al (2005), Management and Cost Accounting, pp.
279-282.
 The learning effect deals with labour time per unit of product. Suppose we
have found or predict a learning curve effect of 80%. The verbal expression
usually is as follows: “the average time per unit has dropped by 20% when
the quantity of units produced has doubled”.

Let us study this relation in greater depth. When the required labour time for
the first unit of product amounts to 100 hours, then the required labour time
for producing two units is 2 * 100 * 80% = 160. This means that producing
the first unit required 100 hours and the second unit required 60 hours,
hence the first and second unit together require 80 hour on average.
When the production volume doubles to 4 units, the average time per unit of
product will decrease to 80% of 80 hours = 64 hours per unit of product.
Hence, in total 4 * 64 hours = 256 hours.
Because 80 hours equal 80% of 100 hours, you could also state that 64
hours equal 80% * 80% of 100 hours.
When the production volume doubles again to 8 units of product, the average
time per unit decreases to 80% of 64 hours = 51.2 hours per unit. Hence, in
total 8 * 51.2 hours = 409.6 hours. Or you could state that: 51.2 hours equal
80% * 80% * 80% of 100 hours.

This learning effect is depicted in the table below:

Production Average labour time per unit of product

1 100
2 80
4 64
8 51.2
Table 1

Graphical method
The quantities for the average time per unit can be presented in graphical
form. The entries for each level of cumulative production are plotted and a
line is drawn through these points.

80% learning curve

120
Average time per unit of product

100

80

60

40

20

0
The graph shows that the average time per unit declines rapidly at first and
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
then more slowly, until eventually the decline is so small that it can be
Production
 ignored. When no further improvement is expected and the regular efficiency
level is reached, the situation is referred to as the steady-state production
level.

Mathematical method

The learning curve can be expressed in the following equation form:

Yx = aXb

Where Yx is defined as the cumulative average time required to produce X

units, a is the time required to produce the first unit of output and X is the
number of units of outputs under consideration. The exponent b is defined as
the ratio of the logarithm of the learning curve improvement rate (e.g. 0.8 for
an 80% learning curve) divided by the logarithm of 2. The improvement
exponent can take on any value between –1 and 0. For example, for an 80%
learning curve:

log 0.8 -0.2231

b = log 2 = 0.6931 = -0.32189

The cumulative average time taken to produce 5 and 10 units can therefore
be calculated as follows:

Y5 = 100 x 5–0.322
Y5 = 100 x 0.6
Y5 = 59,57
and

Y10 = 100 x 10–0.322

Y10 = 100 x 0.48
Y10 = 47,66
A computation of the exponent values can be made by using either logarithm
tables or a calculator with exponent functions.

The above table (Table 1) can also be stated otherwise:

Production Average labour time per unit of product

20 100 * 0,80
21 100 * 0,81
22 100 * 0,82
23 100 * 0,83
Table 2
When the latter is put in the form of a formula, we find the following
expression:
 51,2 = 100 * 80% 3
If we call the production volume X, the cumulative average Y, the required
labour hours for the first unit of product P, and the learning effect L, then the
above formula can be stated as:

Y = P . L2 log ( X )

This formulation is the equivalent of the formulation given above. The first
formulation is based on (the detour of) the natural logarithm.
In the accompanying Excel-model both methods are used.

Estimating incremental hours and incremental cost

Incremental hours cannot be determined directly from the learning curve
graph or formula, since the results are expressed in cumulative average
hours. It is possible, however, to obtain incremental hours by examining the
differences between total hours for various combinations of cumulative hours.
For example, assume that a company has already produced 4 units and is
required to produce another 6 units. We can calculate the incremental hours
for these units as follows:

Total hours if an additional 6 units are produced (10 x 47.66) 477

Total hours for the first 4 units 265
Hours required for 6 units after completion of 4 units 221

The corresponding labour cost can be calculated by multiplying the hourly

wages by the required time to produce a given number of units of output.

Limitations
The use of the learning curve is limited to labour time and those variable
overheads that are a direct function of labour hours of input, while reductions
in the amount of supplies, waste or other (overhead) costs are not
considered.
Another limitation is that the model is based on the same learning effect over
time (for example 80%). Varying learning effects over time, like a temporary
slow down or speed up, are neglected. The reason for this is that these
varying effects are hard to predict.