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OBJECTIVES OF BUSINESS FIRMS
<ul><li>what is an organisation? </li></ul><ul><li>“An organisation is a consciously  coordinated   social unit  composed ...
<ul><li>Profit as an objective of firm </li></ul><ul><li>“The word profit has different meaning to businessmen, accountant...
<ul><li>-  Hawley’s risk theory – Residual theory of profit </li></ul><ul><li>-  Knight’s theory of profit – Risk & Uncert...
<ul><li>-  Schumpeter’s innovation theory of profit </li></ul><ul><li>-  Monopoly profit </li></ul><ul><li>Problems in pro...
<ul><li>Profit Maximisation as an objective of firm </li></ul><ul><li>It has never been unambiguously disapproved.  </li><...
<ul><li>   The defence of profit maximisation: </li></ul><ul><li>-  Profit is indispensable for firm’s survival   </li></...
<ul><li>   Controversy over profit maximisation: </li></ul><ul><li>- Separation of ownership & management </li></ul><ul><...
<ul><li>Alternative objectives of firms </li></ul><ul><li>   B-G-M Hypothesis   </li></ul><ul><li>- Owner controlled firm...
<ul><li>   Baumol’s Hypothesis of sales revenue  </li></ul><ul><li>maximisation </li></ul><ul><li>Managers pursue those g...
<ul><li>   Marris’s Hypothesis of firm’s growth rate  </li></ul><ul><li>maximisation </li></ul><ul><li>“ Managers try to ...
<ul><li>   Williamson's Hypothesis of maximisation of managerial utility </li></ul><ul><li>‘  Managers seek to maximise t...
<ul><li>   Rothschild’s Hypothesis of long run survival & market share goals </li></ul><ul><li>‘  The primary goal of a f...
<ul><li>A reasonable profit target </li></ul><ul><li>Why reasonable profit? </li></ul><ul><li>a) Preventing entry of new f...
<ul><li>   Standards of reasonable profit  </li></ul><ul><li>-  Forms of profit standards </li></ul><ul><li>a) Aggregate ...
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Objectives Of Firms

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Objectives Of Firms

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

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