Objectives of Firms Flashcards
Where do profit maximisers set the level of output?
MR = MC
What are the criticisms of the theory of profit maximisation?
- Difficult to calculate the exact point where MC = MR as firms rarely operate on the margin (buy in bulk)
- Principle-Agent Problem
What is the principle-agent problem?
when there is a separation between ownership and control as there is different objectives between an owner and manager
What other types of maximisation is there?
- sales revenue maximisation
- sales volume maximisation
- growth maximisation
Why would firms want to pursue Sales Revenue maximisation?
- want to try get as much sales and value from what they sell
- workers want to pursue this as the more expensive items they sell the greater the commission they earn
- managers want this as their salaries are linked to how much revenue they bring
- they receive a percentage of each product they sell
- important to attract external finance as for banks to give out loans they look at revenue to see if the firm can pay back loans and if trustworthy
- new firms dont benefit from economies of scale and don’t make a lot of profit so banks have to look at their sales and potentially in the economy
How is output determined for sales revenue maximisation?
- MR = 0
- as when MR goes below the x-axis MR becomes negative
Criticisms of Sales Revenue Maximization
- the principal agent problem is not inevitable because salaries may be linked to profit instead of revenue
Why would firms want to pursue sales volume maximisation?
- want to increase their output as much as possible
- want to boost their status and career profession
- benefits managers as they can put on their CV
- grow output of firm so able to have more workers hired so the manager is in charge and responsible for lots of people which is better for CV
How is output determined for sales volume maximisation?
Where AC = AR
- producing as much as possible
- cant go beyond this point as will start to make an economic loss
Criticisms of Sales Volume Maximization
In reality managers can’t just ignore profit and make as much output as possible but also not making supernormal profit
- shareholders will always once some supernormal profit
Why would firms want to pursue growth maximisation?
- growing as quickly as possible to gain market share and power
- once they do they can increase their prices
- one way they can grow is externally through a merger and a takeover
- can also grow internally by coming up with new products causing sales to massively increase
Merger
When two companies come together and form a complete new firm
Takeover
When a larger firm takes over a smaller firm completely to form an even larger firm
How is output determined for growth maximization?
There is no particular profit for this
Criticisms of growth maximization
- very expensive to take over another firm and may have to take out loans
- internal growth takes a long time to increase their sales as research and development is time consuming
- harder for smaller firms to grow internally as limited funds and not enough profits to invest into new products
