What is a Firm? What are the basic
objectives of a firm?
“A firm is a
centre of control where the decision about what to produce and how to produce
are taken.”
A firm is
understood as an organization which converts input into output.
Inputs are:
Plants, machinery, tools, inventories which include unsold finished and
semi-finished goods and raw-material.
Outputs are:
Goods and services they produce.
Earlier theory of firm talk profit maximization is the sole objective of business
firms.
But recent researches on this issue reveal
that the objectives the firms pursue are more than one. Some important
objectives, other than profit maximization are:-
(a) Maximization of the sales
revenue.
(b) Maximization of firm’s
growth rate.
(c) Maximization of manager’s
utility function.
(d) Making satisfactory rate
of profit.
(e) Long run survival of the
firm.
(f) Entry-prevention and risk
evidence.
Profit Maximization Objectives: Profit means different things to different
people.
Economist’s concept of profit is of “pure
profit” called ‘economic profit’ or “just profit”. Pure profit is a return over
and above opportunity cost, i.e. the income that a businessman might expect
from the second best alternatives use of his resources.
Argue behind this theory is that only those
firm survive in a long run and competitive which are able to make reasonable
profit. Once they are able to make profit they would always try to make it as
large as possible.
Sales
revenue maximization: The reason behind sales
revenue maximization or revenue maximization objectives is the dichotomy (separation
between two things) between ownership and management in large business
corporations. This dichotomy gives managers an opportunity to set their goal
other than profit maximization goal, which most-owner businessman pursue. Give
the opportunity, managers choose to maximize their own utility functions is
maximizations of the sales revenue.
The factors, which explain the pursuance of
this goal by the manager’s are following:
First, salary and other earnings
of managers are more closely related to sales revenue than to profits.
Second, banks and financial
corporations look at sales revenue while financing the corporation.
Third, trend in sales revenue is
a readily available indicator of the performance of the firm.
Maximization
of Firm’s growth rate: Managers maximize firm’s
balance growth rate subject to managerial and financial constrains balance
growth rate defined as:
G=GD-GC
Where GD = growth rate of demand of firm’s
product & GC = growth rate of capital supply of capital to the firm.
In simple words a firm growth rate is
balanced when demand for its product and supply of capital to the firm increase
at the same rate.
Maximization
of managerial utility function: The manager seeks to maximize their own utility function subject
to the minimum level of profit. Manager’s utility function is express as:
G=S.M.ID
Where S= additional expenditure of the staff
M= managerial emoluments.
ID= discretionary investments.
The utility function which manager seek to
maximize include both quantifiable variables like salary and slack earnings;
non-quantifiable such as prestige, power, status, job security professional
excellence etc.
Long Run
survival & Market share: According to some economist,
the primary goal of the firm is long run survival. Some other economists have
suggested that attainment and retention of constant market share is an
additional objective of the firm’s. The firm’s may seek to maximize their
profit in the long run through it is not certain.
Entry prevention and risk avoidance: yet other alternative objectives
of the firm’s suggested by some economists are to prevent entry-prevention can
be:
a) Profit maximization in the
long run.
b) Securing a constant market
share.
c) Avoidance of risk caused
by the un- predictable behavior of the new firm’s.
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