The document summarizes Ronald Coase's seminal work "The Nature of the Firm". It discusses how Coase proposed that firms emerge to minimize transaction costs associated with market exchanges. A firm will grow in size until the costs of organizing additional transactions internally outweigh the costs of conducting them through market exchanges. Coase also put forth the Coase Theorem, which states that when transaction costs are zero, legal entitlements will not affect efficiency and bargaining will lead to an efficient outcome regardless of the initial allocation. Coase's work established transaction cost analysis as a key framework for understanding the boundaries of the firm.

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Nature of the Firm-
Rationale

2. Nature Of The Firm
 A firm is an association of individuals who have
organized themselves for the purpose of turning
inputs into output. The firm organizes the factors of
production to produce goods and services to fulfill
the needs of the households. Each firm lays down its
own objectives which is fundamental to the existence
of a firm.

3. The major objectives of the firm are:
 To achieve the Organizational Goal
 To maximize the Output
 To maximize the Sales
 To maximize the Profit of the Organization
 To maximize the Customer and Stakeholders
Satisfaction
 To maximize Shareholder’s Return on Investment
 To maximize the Growth of the Organization

4.  Firms are established to earn profit, to keep the
shareholders happy. To increase their market share,
they try to maximize their sales. In the present
business world firms try to produce goods and
services without harming the environment.

5.  Firms are not always able to operate at a profit. They
may be facing the operating loss also. Economists
believe that firms maximize their long run rather than
their short run profit. So managers have to make
enough profit to satisfy the demands of their
shareholders and to maximize their wealth through
the company

6. “The Nature of the Firm”
 “The Nature of the Firm” (1937), is an article
by Ronald Coase. It offered an economic
explanation of why individuals choose to form
partnerships, companies and other business entities
rather than trading bilaterally through contracts on a
market.

7.  Given that production could be carried on without any
organization, Coase asks, "Why and under what
conditions should we expect firms to emerge?" Since
modern firms can only emerge when
an entrepreneur of some sort begins to hire people,
Coase's analysis proceeds by considering the
conditions under which it makes sense for an
entrepreneur to seek hired help instead of contracting
out for some particular task.
 The traditional economic theory of the time suggested
that, because the market is "efficient" (that is, those
who are best at providing each good or service most
cheaply are already doing so), it should always be
cheaper to contract out than to hire.

8.  Coase noted, however, that there are a number
of transaction costs to using the market; the cost of
obtaining a good or service via the market is actually
more than just the price of the good. Other costs,
including search and information costs, bargaining
costs, keeping trade secrets, and policing and
enforcement costs, can all potentially add to the cost
of procuring something via the market. This suggests
that firms will arise when they can arrange to
produce what they need internally and somehow
avoid these costs.

9.  There is a natural limit to what can be produced internally,
however. Coase notices "decreasing returns to the
entrepreneur function", including increasing overhead costs
and increasing propensity for an overwhelmed manager to
make mistakes in resource allocation. This is a
countervailing cost to the use of the firm.
 Coase argues that the size of a firm (as measured by how
many contractual relations are "internal" to the firm and how
many "external") is a result of finding an optimal balance
between the competing tendencies of the costs outlined
above. In general, making the firm larger will initially be
advantageous, but the decreasing returns indicated above
will eventually kick in, preventing the firm from growing
indefinitely.

10.  Other things being equal, a firm will tend to be larger:
 the less the costs of organizing and the slower these costs
rise with an increase in the transactions organized.
 the less likely the entrepreneur is to make mistakes and the
smaller the increase in mistakes with an increase in the
transactions organized.
 the greater the lowering (or the less the rise) in the supply
price of factors of production to firms of larger size.
 The first two costs will increase with the spatial distribution
of the transactions organized and the dissimilarity of the
transactions. This explains why firms tend to either be in
different geographic locations or to perform different
functions.

11.  Additionally, technology changes that mitigate the
cost of organizing transactions across space will
cause firms to be larger—the advent of the
telephone and cheap air travel, for example, would
be expected to increase the size of firms. On a
related note the use of the internet and related
modern information and communication
technologies seem to lead to the existence of so-
called virtual organizations.
 Coase does not consider non-contractual
relationships, as between friends or family.

12.  COASE THEOREM
 In The Problem of Social Cost”, Coase laid a critical foundation of
modern law and economics – the so-called Coase theorem. The
Coase theorem has been formulated in various ways, but one
useful statement might be that: “When the parties can bargain
successfully, the initial allocation of legal rights does not matter.”
According to the Coase theorem, rights will be acquired by those
who value them most highly, which creates an incentive to
discover and implement transaction cost minimizing governance
forms.
 The Coase Theorem describes the economic efficiency of an
economic allocation or outcome in the presence of externalities.
The theorem states that when trade in an externality is possible
and there are no transaction costs, bargaining will lead to an
efficient outcome regardless of the initial allocation of property
rights. The Coase theorem is an important basis for most modern
economic analyses of government regulation, especially in the
case of externalities.

13.  Whether a transaction would be organized within a firm
or whether it would be carried out on the market
depended on a comparison of the costs of organizing
such a transaction within the firm with the costs of a
market transaction that would accomplish the same
result. All this is very simple and obvious. But it took
me a year to realize it – and many economists seem
unaware of it (or its significance) to this day…As it was
a new approach (I think) to this subject, I was quite
pleased with myself. One thing I can say is that I made
it all up myself. As I said in my Nobel Prize lecture, I
was then twenty-one and the sun never ceased to
shine.”
– Ronald Coase

14.  Thank You