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Objectives profit max and others

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• Objectives profit max and others

1. 1. Market operations ofMarket operations of firms:firms: objectives of firmsobjectives of firms
2. 2. Learning outcomes Understand that firms have a range of objectives Explain and assess other objectives firms may pursue Understand the profit maximising rule Explain why firms may not maximise profit
3. 3. In pairs, discuss what objectives firms might pursue. Make a list of your top five objectives.
4. 4. Keep on task:Keep on task: time is ticking away …time is ticking away … In pairs, discuss what objectives firmsIn pairs, discuss what objectives firms might pursue.might pursue. Make a list of your top five objectives.Make a list of your top five objectives. countdown.mp3
5. 5. Profit maximisationProfit maximisation Traditional economic theory is based on the assumption that firms aim to maximise profits. Profit is: Total Revenue – Total Cost So, to maximise profits firms must maximise the difference between total revenue and total cost.
6. 6. Task 1Task 1 Using the information below, draw a diagram of TR and TC against output (Q) and find out the profit maximising output. Output Total Revenue Total Cost 0 0 6 1 8 10 2 16 12 3 24 16 4 32 24 5 40 36 6 48 52
7. 7. 0 10 20 30 40 50 60 0 1 2 3 4 5 6 Output RevenueandCost(£) Total Revenue Total Cost
8. 8. 0 10 20 30 40 50 60 0 1 2 3 4 5 6 Output RevenueandCost(£) Total Revenue Total Cost
9. 9. Task 2Task 2 Using the information below, calculate MR and MC, plot them on a diagram and find out the profit maximising output. Output Total Revenue Total Cost 0 0 6 1 8 10 2 16 12 3 24 16 4 32 24 5 40 36 6 48 52
10. 10. 0 2 4 6 8 10 12 14 16 18 0.5 1.5 2.5 3.5 4.5 5.5 Output MRandMC(£) MR MC
11. 11. 0 2 4 6 8 10 12 14 16 18 0.5 1.5 2.5 3.5 4.5 5.5 Output MRandMC(£) MR MC
12. 12. Profit maximising ruleProfit maximising rule There is a very simple rule which has to be satisfied for profits to be maximised. It is: Marginal Revenue (MR) = Marginal Cost (MC) If raising output adds more to revenue than it does to costs (MR > MC), then profits must rise. If raising output adds more to costs than it does to revenue (MC > MR), profits must fall. So, profits must be maximised (or losses minimised) when MR = MC
13. 13. Do firms maximise profits? Difficulties maximising profit Firms may want to maximise profits but they are unable to Difficulties maximising profit Firms may want to maximise profits but they are unable to Other aims Firms pursue other aims either in addition to maximising profit or instead of Other aims Firms pursue other aims either in addition to maximising profit or instead of
14. 14. Difficulties maximising profit Knowledge of demand Short run or long run? Multi-product firms
15. 15. Difficulties maximising profitDifficulties maximising profit Lack of information Firms do not use economic concepts of profit (eg opportunity cost), so cannot maximise true profit Firms do not know their demand curves, so cannot know their marginal revenue. Estimates of PED may help but are unreliable. Firms do not know their demand curves because they do not know their competitors reactions (interdependence, oligopoly and game theory)
16. 16. Difficulties maximising profitDifficulties maximising profit Short run or long run? Over what time period should the firm maximise profits? Over time revenue and costs change – in reality they are not static. Investment in capital equipment, for example, reduces profit in the short run but raises it the long run. Multi-product firms Multi-product firms will find it difficult to assign fixed costs (overheads) to each product. How much of Morrisons overheads can be allocated to a tin of Baked Beans – it doesn’t know the MC
17. 17. Why alternative objectives? Divorce of ownership from control Asymmetric information Profit satisficing behaviour
18. 18. Why alternative objectives?Why alternative objectives? Divorce of ownership from control In modern day companies, PLCs are owned by shareholders, who elect directors, who in turn employ managers. Those who own PLCs do not control them on a day-to-day basis. Managers are likely to pursue their own objectives – maximise their own utility – through higher salaries, power and prestige, growth of the firm … They will earn just enough profit to keep shareholders happy – profit satisficing
19. 19. Why alternative objectives?Why alternative objectives? Asymmetric information Asymmetric information occurs when one group has more information than another. This is the principal-agent problem. Shareholders are the principals, managers the agents of the shareholders. Shareholders may not be in a position to judge whether performance (profit) could be better. Managers (shareholders) pursue their own interests.
20. 20. What alternative objectives? Managerial utility maximisation Sales revenue maximisation Growth maximisation achieved through mergers, acquisitions, internal growth
21. 21. Satisficing behaviour In reality, firms are likely to have multiple objectives Business environment changes Firms respond to changing environment with changing objectives profit acts as a constraint