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Profit Vs Wealth

Every profitable organization or simply firms operate with a predetermined set of objectives and the desire to fulfil those objectives. But in the role of a financial head, there primarily exists one ulterior motive he/she must adhere to. And that is to enhance the economic welfare of the proprietor or entrepreneur of the firm. And this economic welfare may be in the form of profit maximization of the firm or wealth maximization of Shareholders.

Profit in all amounts to the income minus all expenses, received by the entrepreneur. Hence the primary goal begins with maximizing this income either by cutting down on expenses or finding means to maximize the firm’s profit. But when we consider the aspect of maximizing wealth as a goal; for the firm; then we tend to look into the broader objectives that any firm strives for in the long run.

Here we discuss the two delusional objectives of operating a firm; Profit maximization and wealth maximization; and how they differ from each other.

Profit Maximization

The procedure incorporated by a firm to enhance its profit earning potentiality known as “Profit Maximization.” This objective only exists to be a short term goal for every firm as it only focuses on reducing costs. And it is maximizing the net income of the firm. The objective fails to take into account the time value of money and also the risk factor involved in running a firm. The objective revolves around the sole motive of a firm’s survival in the short run.

Wealth Maximization

Wealth Maximization, on the other hand; is a long term objective that focuses on boosting the proficiency of the firm to increase the profit of its shareholders or stakeholders. This long term objective revolves around several factors such as production, sales, marketing, and operational efficiency. It places in balance the time value of money along with the value of risks ascertained. The ultimate target is to attain a leadership position by gaining control over the largest share of the market.

Shift from Profit to Wealth Maximization

The traditional approach of operating a firm was limited to the primary goal of profit maximization. It was because of a lack of existing competition, consumer awareness, and also updated technology. But as years pass, the population grows, technology upgrades, consumer awareness increases, and most importantly, their needs & desires grow. This shift in the psychology of consumers has led to a shift towards the modern approach; with the ultimate goal of wealth maximization.

The market operates through functions of demand and supply. Traditionally, every entrepreneur focused on meeting the demand at the lowest cost possible, but as the market grew, competition arose; share of the demand depreciates for each firm. To compensate for

the reduced demand, firms target shifts to reducing costs and improving quality by increasing efficiency in production. A fall in the price of the commodity, in return, offers a larger market share meaning higher profits. But this exists only for the short term.

As technology upgrades, each competent firm now becomes productively efficient, and again, the market share for the firm falls. It is referred to as the saturation point when the market equilibrium reaches the top. And there remains no scope for any firm to make extra profits. It is when the firm begins to step out of the box and give it to society. Products are now produced according to consumer needs using economies of scale to lower cost and product uniqueness.

Now the focus lies not on increasing revenues of the firm but the share of the demand, i.e., the market share of the firm. It is reducing either by reducing the price of the product through productive efficiency; or fulfilling demands by producing a unique product. Either way, the firm marches towards its broader objective of wealth maximization.