PROFIT MAXIMIZATION AND

OTHER OBJECTIVES OF
INDUSTRIAL FIRMS

Guided By:Prof. Vijay Pareek

Presented By:Anita Parihar

08EJTEC005
ECE, 8th Sem.,
A1-Batch
1

CONTENTS
Goal of Profit Maximization
What is profit ?
Revenue
Method of profit maximization
Advantages
Entry prevention & risk avoidance
Conclusion
References

The Goal Of Profit Maximizati

To analyze decision making at the firm, lets
start with a very basic question.
What is the firm trying to maximize?

A firms owners will usually want the firm to earn

as much profit as possible.
We will view the firm as a single economic
decision maker whose goal is to maximize its
owners profit.
Why?
Managers who deviate from profit-maximizing for too long are
typically replaced either by
Current owners or
Other firms who acquire the underperforming firm
and then replace management team with their own
Many managers are well trained in tools of profit-maximization
3

DEFINITION OF PROFIT
Profit is the making of gain in Business activity
for the benefit of the owners of the business.
Two Important Concepts Of Profit : Accounting Profit Profit is the surplus of
revenue over and above all paid-out costs,
including both manufacturing and overhead
expenses.
Economic Profit It is the difference between
a Companys total revenue and its opportunity
cost.
4

Understanding Profit: Two

Definitions of Profit
Profit is defined as the firms sales revenue
minus its costs of production
If we deduct only costs recognized
accountants, we get one definition of profit
Accounting profit = Total revenue
Accounting costs
A broader conception of costs (opportunity
costs) leads to a second definition of profit
Economic profit = Total revenue All
costs of production
Or Total revenue (Explicit costs +
Implicit costs)
5

by

Why Are There Profits?

Economists view profit as a payment for two
necessary contributions
Risk-taking
Someonethe ownerhad to be willing to
take the initiative to set up the business
This individual assumed the risk that business
might fail and the initial investment be lost

Innovation
In almost any business you will find that some sort
of innovation was needed to get things started

FUNCTIONS OF PROFIT
Measure Of Performance
Premium To Cover Costs Of Staying In
Business
Ensuring Supply Of Future Capital

ACCO
UNTIN
G
PROFI
T

NORMAL PROFIT

SUPER NORMAL PROFIT

TYPES OF PROFIT

1) Super Normal Profit Also known as economic profit, excess profit.

It contrasted with economic interest which is the
return to owner of capital stock or money or
bonds.

2) Normal Profit It represents the total opportunity costs of a

venture to an investor.

3) Accounting Profit Accountants define the annual profit of a

business
as the difference between the
revenue it takes in and its explicit costs for the
year, which are the actual payments the firm
makes to its factors of production and the other
suppliers. Profit thus defined is called
accounting profit.

Accounting profit = total revenue - explicit costs.

9

Reasons For Aiming At

Reasonable Profit
Preventing Entry Of Competitors
Projecting A Favorable Public Image
Restraining A Trade Union Demand
Maintaining Customer Goodwill

10

REVENUE
The amount of money that a company actually
receives during a specific period, including
discounts and deductions for returned
merchandise.
Three types of revenue Total revenue
Marginal revenue
Average revenue

11

TOTAL REVENUE
It is the total receipts of a firm from the sale of
any given quantity of a product.
It can be calculated as the selling price of the
firms product times the quantity sold.
i.e. Total Revenue = Price x Quantity
TR(Q) = P(Q) X Q
Where,
TR(Q) = Total revenue function
P(Q) = Inverse demand function
Q

= Quantity of output sold

12

MARGINAL REVENUE
It is the chain in total revenue which results
from the sell of one more or one less unit of
accomidity called marginal revenue.

AVERAGE
PerREVENUE
unit of output sold is called average

revenue.

AR(Price) = TR/Q
where, TR = Total revenue
Q = Quantity of output sold

13

METHOD OF PROFIT MAXIMIZATIO

There are 2 approaches Total Cost & Total revenue approach
The Marginal Revenue and Marginal Cost
Approach

14

Total Cost & Total revenue approa

At any given output level, we know
How much revenue the firm will earn
Its cost of production
Loss
A negative profitwhen total cost exceeds
total revenue
This is the period in which one or more factors
are fixed in supply.
In the total revenue and total cost approach, the
firm calculates Profit = TR TC at each output
level
Selects output level where profit is greatest
15

Rupees
3,500

TC

3,000
2,500
2,000

Profit at 3
Units

1,500
1,000

Profit at 5
Units

TR

TR from producing 2nd unit

500
Total Fixed
Cost

Profit at 7
Units

TR from producing 1st unit

0

16

10
Output

Marginal revenue and

marginal cost approach
Marginal revenue
Change in total revenue from
producing one more unit of output
MR = TR / Q
Tells us how much revenue rises per unit
increase in output

17

The Marginal Revenue and

Marginal Cost Approach
Important things to notice about marginal
revenue
When MR is positive, an increase in output causes
total revenue to rise
Each time output increases, MR is smaller than the
price the firm charges at the new output level

When a firm faces a downward sloping demand

curve, each increase in output causes
Revenue gain
From selling additional output at the new price

Revenue loss
From having to lower the price on all previous units of
output

Marginal revenue is therefore less than the price of

the last unit of output
18

Using MR and MC to Maximize

Profits
Marginal revenue and marginal cost can be
used to find the profit-maximizing output level
Logic behind MC and MR approach
An increase in output will always raise profit as
long as marginal revenue is greater than marginal
cost (MR > MC)

Converse of this statement is also true

An increase in output will lower profit whenever
marginal revenue is less than marginal cost (MR <
MC)

Guideline firm should use to find its profitmaximizing level of output

Firm should increase output whenever MR > MC,
and decrease output when MR < MC
19

The MR and MC Approach

Using Graphs
Figure also illustrates the MR and MC approach
to maximizing profits
Can summarize MC and MR approach
To maximize profits the firm should produce
level of output closest to point where MC =
MR
Level of output at which the MC and MR curves
intersect

This rule is very usefulallows us to look at a

diagram of MC and MR curves and immediately
identify profit-maximizing output level
20

Rupees
600
MC

500
400
300
200
100
0
100
200

profit rises

profit falls

Output
MR
21

PROFIT MAXIMIZATION HAS

BEEN CRITICISED ON SEVERAL
GROUNDS:
Divorce of ownership from control
Difficulties in pursuing profit maximization
Problems in the measurement of profit
Social responsibility of the firm
Deliberate limitation of profits
22

Entry-prevention and Riskavoidance

Profit maximization in long run.
Securing a constant market share.
Avoidance of risk caused by unpredictable
behavior of new firms.

23

CONCLUSION
Although profit maximization remains the main
hypothesis in economic analysis, there is no
reason to believe that profit maximization is the
only objective that the firms peruse.
Modern organizations , in fact, follow multiple
objectives as the various economists have also
postulated in their theories.

24

REFERENCES
Profit Maximization, Wikipedia, the free
encyclopedia.
Profit Maximization, www.google.com.
Economics Profit Maximization,
www.cliffsnotes.com
Profit Maximization, www.investorwords.com

25

THANK YOU

26