Objectives of the Firm

Finance, Corporate finance, Stock


The standard economic assumption underlying the analysis of firms is profit maximization. Real world firms, however, might not, and many times do not, make decisions based on the profit-maximization objective, or at least exclusively on the profit-maximization objective. Other objectives include: (1) sales maximization, (2) pursuit of personal welfare, and (3) pursuit of social welfare. Although firms are assumed to make decisions that increase profit in standard economic analysis, real world firms often pursue other objectives on a day-to-day basis. Some firms set their sights on maximizing sales. For other firms the owners or employees are inclined to enhance personal living standards. And more than a few firms take steps that promote the overall welfare of society. In some cases, these other objectives help a firm pursue profit maximization. In other cases, they prevent a firm from maximizing profit. Profit Maximization

Profit maximization is the process of obtaining the highest possible level of profit through the production and sale of goods and services. This is the guiding principle underlying the analysis of short-run production by a firm. In particular, economic analysis is assumed that firms undertake actions and make the decisions that increase profit. Profit is the difference between the total revenue a firm receives from selling output and the total cost of producing that output. Profit-maximization means that a firm seeks the production level that generates the greatest difference between total revenue and total cost. Consider how profit maximization might work for The Wacky Willy Company. Suppose that The Wacky Willy Company generates $100,000 of profit by producing 100,000 Stuffed Amigos, the difference between $1,000,000 of revenue and $900,000 of cost. * If profit falls from this $100,000 level when The Wacky Willy Company produces more (100,001) or fewer (99,999) Stuffed Amigos, then it is maximizing profit at...
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