Objectives of firms – profit max, rev max, sales max, satisficing Flashcards
Profit maximisation:
when MC = MR
TRADITIONAL ECONOMIC THEORY
assume firm is looking to maximise profits
why profit maximise?
- Reinvestment = profits can be reinvested into new/ upgraded capital + r&d
- Dividends for shareholders – pay greater dividends to them
- Lower costs + lower prices for consumers – can pass on lower prices to consumers by maintaining lower costs
- Reward for entrepreneurship – reward for taking risk of starting business
evaluate profit maximise 1
- Knowledge of MC and MR – some business do not know this, they don’t take it into decision making
- Greater scrutiny – competition authorities/ regulation will critique them more and possibly investigate and force reduces in prices or force environmentally/ healthy targets
evaluate profit maximise 2
- Key stakeholders harmed – satisficing is not occurring
- Other objectives more appropriate
Why is profit maximised at MC = MR?:
- Any point right of the point have MC higher than MR
- Any point on the left, each extra unit will generate more profit
- So rational place to stop would be at MC = MR
Profit Satisficing example
sacrificing profit to satisfy as many key stakeholders as possible
profit satisficers overcome
third major issue of profit maximisation
profit satisficers + stakeholders
Shareholders – happy with profit max
Managers – happy with profit max
Consumers – unhappy due to damage to environment + higher prices
Workers/ TVs – unhappy - if wages are low due to cost cutting
Gov – unhappy - environment + low wages
Environmental groups – unhappy environmental damage
profit satisficers might be more appropriate objective as
profit maximization bringing all this heat above
Revenue Maximisation
MR = 0
why revenue max?
- Economies of scale – higher quantity = lower costs = lower prices
- Predatory pricing – rival firms undercut prices to push rivals out, sacrificing profit to do so.
- Prinicipal agent problem – divorce between ownership and control, those who don’t control, managers may decide to revenue max to look for benefits personally
- fall in revenue is dangerous for reinvestment and payments for shareholders
Sales maximisation
where AC = AR = breakeven point
why sales maximise
- Maximise growth and output
- Economies of scale – maximised output = LRAC fall
- Limit pricing – reduce incentives of firms coming in as it is the normal profit range, so it would limit competition – illegal though?
- Principal agent problem – managers may use growth/ sales to get greater perks in their jobs
- Flood the market – more sales = more people see it and develop loyalty and more recognition, then can change objective after.
By short-run profit maximising, firms can
also generate funds for investment and to help them survive a slowdown during a recession.
William Baumol suggested managers are most interested
in their level of revenue since this is what their salary depended on.
why do managers push for revenue maximisation
Even when salary isnt directly connected to sales revenue, they knew that a growth in revenue was always likely to be a positive for the business. It increases their prestige and is used as a justification to shareholders for managerial rewards.
example of revenue maximisation
Amazon follow an objective of revenue maximisation, with revenue nearing £120bn in 2015 but profit staying relatively stable. Their aim is to dominate the market.
Robin Marris suggested that
managers aim to maximise the growth of their company above any other objective. This is because their salary may be linked to the size of the company.
Size is often linked to security
as it is believed large firms can survive rough periods much easier and are less likely to get into financial trouble overnight.
Growth will also increase
market share, and may push other firms out of business. It will enable a firm to have more market power and more power over prices.
who follow sales maximisation
Netflix and Spotify
Problem with both sales maximisation and revenue maximisation
necessitates a fall in price, which other firms may copy and so there may be no or little increase in revenue or sales: this is important in oligopoly. They also bring lower profits
