Concept of wealth maximization and profit maximization for firm

Output Q1 is the minimum profit level since any increase or decrease from this level would result in an increase in profits. In such cases, higher capitalization rate involves.

In other words, it is a residual income over and above his normal profits. Goods and services which are in great demand can command higher prices.

Profit Maximisation and Wealth Maximisation: Meaning and Difference

Decision of whether to produce or not in the short run- A firm has to incur fixed costs in the short run, even if it decides to shut down its operations completely. Thus, in order to resolve whether or not to produce in the short run, a firm ought to compare its losses under two scenarios, i.

This is a serious weakness of the profit maximisation theory. It does not pay the firm to produce the minimum output when it can earn larger profits by producing beyond OM.

Competitive Advantage There are two elements of competitive advantage as per Michael Porter which are cost advantage and differentiation advantage.

In the latter, shareholders have practically no influence over the actions of the managers. Capital investment decisions of a firm have a direct relation with wealth maximization.

It encourages unsocial and bad earning habits and may give rise to corrupt practices and unfair trade. Higher the entry barrier, higher is the chances for a firm to sustain for a long term.

Keeping the above objection in view, most of the thinkers on the subject have come to the conclusion that the aim of an enterprise should be wealth maximisation and not the profit maximisation. Profit Maximization is necessary for the survival and growth of the enterprise. Amicable conditions among the competitors would make the firms enjoy the better position.

The theory does not tell the duration of either the short period or the long period. Profit maximization causes the efficient allocation of resources in competitive market condition and profit is considered as the most important measure of firm performance.

It can only decide about the output to be sold at the market price. Short-term profit maximization can be achieved by the managers at the cost of long-term sustainability of the business.

But it does not mean that the firm can set both price and output. Thus the firm maximises its profits at M1 B price at the output level OM1.

Even if your business is a one-person shop, you are the shareholder. Under such a condition, the following rule would apply.

It is the versatile goal of the company and highly recommended criterion for evaluating the performance of a business organisation. It is important as we all know that a dollar today and a dollar one-year latter do not have the same value.

Explained by Michael Porter, there are five forces of industry attractiveness which are as follows: Let us discuss them in little more details. Secondly, profit maximization presents a shorter term view as compared to wealth maximization.

Principle- Fundamental objective of a firm is to maximize the market value of its shares. If both the conditions support an organization, it tastes the success. Therefore, the demand curve for its product is downward sloping to the right, given the tastes and incomes of its customers.

Lesser the bargaining power of buyers, the firm becomes in a better position to dominate terms. Money is imperative for the growth and proper functioning of all enterprises.

Objections to Profit Maximization: Therefore, JH is the maximum profits that can be earned by the firm, given the total revenue and total cost conditions. It is a price-maker which can set the price to its maximum advantage.

Geometrically, it can be said that the MC curve should intersect MR curve from below so that MC is less than MR to the left of the profit-maximizing output and greater than MR to the right of the profit-maximizing output.

It is the addition to total cost as one more unit of output is produced. To summarize, the first rule of profit maximization is that a firm should produce only when the Average Revenue is greater than or equal to Average Variable Cost. Therefore, this principle implies that the fundamental objective of a firm is to maximize the market value of its shares.

Research and Profit Maximization in Finance and Economics. Whereas the wealth maximization concept fully endorses the time value factor in evaluating cash flows. At the most, they may have a knowledge about their own costs of production, but they can never be definite about the market demand curve.

The Concept of Maximizing Corporate Profits

Maximization of profit used to be the main aim of a business and financial management till the concept of wealth maximization came into being.

It is a superior goal compared to profit maximization as it takes broader arena into consideration. Profit Maximization refers to the rupee income while wealth maximization refers to the maximization of the market value of the firm’s shares.

Although profit maximization has been traditionally considered as the main objective of the firm, it has faced criticism. Profit maximization is the main/most important objective of any business -in particular in the Western world.

Concept of Profit Maximization Essay

Profit equals a company's revenues minus expenses. Maximizing a profit is key to any business because profitability impacts whether a company can secure financing from a financial institution and attract investors to fund its operations.

However, as profit maximisation ignores risk and uncertainty and timing of returns, a firm can’t solely depend on the objective. Wealth Maximisation: Hence, the objective of a firm is to maximise its wealth and the value of its shares.

According to van Home value is represented by the market price of the company’s common stock. The concept of profit maximization makes certain that a firm is earning the maximum returns or profit.

Profit maximization relates to economics as it deals with the costs and revenues on a microeconomic level. Profit maximization is used by firms to determine the price and output for their products. Why are business firms not seeking profit rather than an increase in share price? One reason is that profit maximization does not take the concepts of risk and reward into account like shareholder maximization does.

The goal of profit maximization is, at best, a short-term goal of financial management.

Concept of wealth maximization and profit maximization for firm
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Profit Maximisation Theory: Assumptions and Criticisms| Economics