2. whaT IS aN ORgaNISaTION?
whaT IS aN ORgaNISaTION?
“
“An organisation is a consciously
An organisation is a consciously coordinated
coordinated
social unit
social unit composed of two or more ‘people’ ,that
composed of two or more ‘people’ ,that
function on a relatively continuous basis to
function on a relatively continuous basis to
achieve a common
achieve a common goal or set of goals
goal or set of goals.”
.”
“
“ There is no reason to believe that all businessmen
There is no reason to believe that all businessmen
pursue the same objective.” – Baumol
pursue the same objective.” – Baumol
3. PROFIT aS aN OBJECTIVE OF FIRM
PROFIT aS aN OBJECTIVE OF FIRM
“
“The word profit has different meaning to
The word profit has different meaning to
businessmen, accountants, tax collectors, workers..”
businessmen, accountants, tax collectors, workers..”
- Joel Dean
- Joel Dean
Accounting profit Vs Economic profit
Accounting profit Vs Economic profit
Theories of profit
Theories of profit
- Walker’s theory of profit – as rent of ability
- Walker’s theory of profit – as rent of ability
- Clark’s dynamic theory
- Clark’s dynamic theory
‘
‘ profit is an elusive sum which entrepreneurs grasp
profit is an elusive sum which entrepreneurs grasp
but cannot hold. It slips through their fingers and
but cannot hold. It slips through their fingers and
bestows on all members of the society.’ – J.B.Clark
bestows on all members of the society.’ – J.B.Clark
4. - Hawley’s risk theory – Residual theory of profit
- Hawley’s risk theory – Residual theory of profit
- Knight’s theory of profit – Risk & Uncertainty
- Knight’s theory of profit – Risk & Uncertainty
(A)
(A) Risk
Risk:
: A low probability of an expected outcome (in common)
A low probability of an expected outcome (in common)
From business decision making point of view, risk refers to a
From business decision making point of view, risk refers to a
situation in which a business decision is expected to yield more than
situation in which a business decision is expected to yield more than
one outcome and the probability of each outcome is known to the
one outcome and the probability of each outcome is known to the
decision maker and can be reliably estimated.
decision maker and can be reliably estimated.
(B)
(B) Uncertainty
Uncertainty: It refers to a situation in which there are more than
: It refers to a situation in which there are more than
one outcome of a business decision and the probability of no
one outcome of a business decision and the probability of no
outcome is known or can be meaningfully estimated.
outcome is known or can be meaningfully estimated.
Due to – Lack of Reliable market information
Due to – Lack of Reliable market information
- Inadequate past experience
- Inadequate past experience
- High volatility of market conditions
- High volatility of market conditions
5. - Schumpeter’s innovation theory of profit
- Schumpeter’s innovation theory of profit
- Monopoly profit
- Monopoly profit
PROBlEMS IN PROFIT MEaSUREMENT
PROBlEMS IN PROFIT MEaSUREMENT
- Which profit concept to be used?
- Which profit concept to be used?
- What costs should be & what costs should not be included?
- What costs should be & what costs should not be included?
> Depreciation
> Depreciation
> Capital gains & losses
> Capital gains & losses
> Current Vs Historical costs – Assets; specially inventory –
> Current Vs Historical costs – Assets; specially inventory –
FIFO, LIFO & WAC
FIFO, LIFO & WAC
6. PROFIT MaxIMISaTION aS aN
PROFIT MaxIMISaTION aS aN
OBJECTIVE OF FIRM
OBJECTIVE OF FIRM
- It has never been unambiguously disapproved.
It has never been unambiguously disapproved.
- No alternative hypothesis explains & predicts
No alternative hypothesis explains & predicts
the behaviour of the firms better than this
the behaviour of the firms better than this
theory.
theory.
Conditions for maximising profit
Conditions for maximising profit
-
- Necessary / first order condition:
Necessary / first order condition: MR = MC
MR = MC
-
- Secondary / second order condition:
Secondary / second order condition: The necessary
The necessary
condition must be satisfied under the condition
condition must be satisfied under the condition
of decreasing MR & rising MC
of decreasing MR & rising MC
7.
The defence of profit maximisation:
The defence of profit maximisation:
-
- Profit is indispensable for firm’s survival
Profit is indispensable for firm’s survival
-
- Other objectives’ success is dependent on firm’s
Other objectives’ success is dependent on firm’s
ability to make profit
ability to make profit
- It has got a great predictive power
- It has got a great predictive power
- Profit is a more reliable measure of firm’s
- Profit is a more reliable measure of firm’s
efficiency
efficiency
- Evidence against this objective are not conclusive
- Evidence against this objective are not conclusive
( Hall & Hitch survey)
( Hall & Hitch survey)
- Purpose of traditional theory of value is different
- Purpose of traditional theory of value is different
(Fritz Maclup’s observation)
(Fritz Maclup’s observation)
8.
Controversy over profit maximisation:
Controversy over profit maximisation:
- Separation of ownership & management
- Separation of ownership & management
- Assumption of full knowledge of the market
- Assumption of full knowledge of the market
conditions on the part of firm is questionable.
conditions on the part of firm is questionable.
- Marginality principle is not widely in use.
- Marginality principle is not widely in use.
9. alTERNaTIVE OBJECTIVES OF FIRMS
alTERNaTIVE OBJECTIVES OF FIRMS
B-G-M Hypothesis
B-G-M Hypothesis
- Owner controlled firms have higher profit rates
- Owner controlled firms have higher profit rates
than the manager controlled firms.
than the manager controlled firms.
- The managers have no incentives for profit
- The managers have no incentives for profit
maximisation.
maximisation.
10.
Baumol’s Hypothesis of sales revenue
Baumol’s Hypothesis of sales revenue
maximisation
maximisation
Managers pursue those goals which furthers their
Managers pursue those goals which furthers their
interest.
interest.
- Salary & other management emoluments are more
- Salary & other management emoluments are more
closely related to sales revenue than to profit.
closely related to sales revenue than to profit.
- Banks & other financial institutions look at sales
- Banks & other financial institutions look at sales
revenue for credibility.
revenue for credibility.
- Sales revenue trend is more readily available indicator
- Sales revenue trend is more readily available indicator
of the firm’s performance
of the firm’s performance
- Managers find it difficult to maximise the profit
- Managers find it difficult to maximise the profit
consistently due to changing & challenging conditions.
consistently due to changing & challenging conditions.
-
- Static & Dynamic model
Static & Dynamic model
11.
Marris’s Hypothesis of firm’s growth rate
Marris’s Hypothesis of firm’s growth rate
maximisation
maximisation
“
“Managers try to maximise firm’s
Managers try to maximise firm’s balanced growth
balanced growth
rate
rate subject to managerial & financial constraints.”-
subject to managerial & financial constraints.”-
Robin Marris
Robin Marris
G = G
G = GD
D = G
= GC
C
G
GD
D = Growth rate of demand for firm’s product
= Growth rate of demand for firm’s product
G
GC
C= Growth rate of capital supply to the firm
= Growth rate of capital supply to the firm
Um = f (salary, power, job security, prestige, status..)
Um = f (salary, power, job security, prestige, status..)
Uo = f (output, capital, market share, profit, public
Uo = f (output, capital, market share, profit, public
esteem..)
esteem..)
‘
‘ Size of the firm’
Size of the firm’
12.
Williamson's Hypothesis of maximisation of
Williamson's Hypothesis of maximisation of
managerial utility
managerial utility
‘
‘ Managers seek to maximise their own utility
Managers seek to maximise their own utility
function.’
function.’
U = f (S, M, I
U = f (S, M, ID
D )
)
S = Additional expenditure on staff
S = Additional expenditure on staff
M = Managerial Emoluments
M = Managerial Emoluments
I
ID
D = Discretionary investment
= Discretionary investment
Cyert - March Hypothesis of satisficing
Cyert - March Hypothesis of satisficing
behaviour (Simon’s Hypothesis)
behaviour (Simon’s Hypothesis)
‘
‘ A firm is a coalition of different groups with
A firm is a coalition of different groups with
conflicting goals.’ –
conflicting goals.’ – Aspiration level of the firm
Aspiration level of the firm
13.
Rothschild’s Hypothesis of long run
Rothschild’s Hypothesis of long run
survival & market share goals
survival & market share goals
‘
‘ The primary goal of a firm is long run survival.’
The primary goal of a firm is long run survival.’
Entry prevention & Risk avoidance
Entry prevention & Risk avoidance
Hypothesis
Hypothesis
Motive
Motive :
: a) profit maximisation in the long run
a) profit maximisation in the long run
b) Securing a constant market share
b) Securing a constant market share
c) Avoiding the risk caused by the
c) Avoiding the risk caused by the
unpredictable behaviour of new firms
unpredictable behaviour of new firms
14. A reasonable profit target
A reasonable profit target
Why reasonable profit?
Why reasonable profit?
a) Preventing entry of new firms
a) Preventing entry of new firms
b) Projecting a favourable public image
b) Projecting a favourable public image
c) Restraining trade union demands
c) Restraining trade union demands
d) Maintaining customer goodwill
d) Maintaining customer goodwill
e) Managerial utility function is more preferable
e) Managerial utility function is more preferable
to profit maximisation etc.
to profit maximisation etc.
15.
Standards of reasonable profit
Standards of reasonable profit
-
- Forms of profit standards
Forms of profit standards
a) Aggregate money terms
a) Aggregate money terms
b) Percentage of sales
b) Percentage of sales
c) Percentage of ROI
c) Percentage of ROI
- How much profit is reasonable? - Standards
- How much profit is reasonable? - Standards
a) Capital attracting standard
a) Capital attracting standard
b) ‘ Plough back’ standard
b) ‘ Plough back’ standard
c) Normal earning standards
c) Normal earning standards
