Wednesday, January 6, 2010

Goal of The Firm

In finance , the goal of the firm is always described as "maximization of shareholders' wealth".

Profit Maximization - is always used as a goal of the firm in microeconomics. Focus on short term goal to be achieved within a year. It stresses on the efficient use of capital resources. In order to maximize profit, the financial manager will implement actions that would result in maximum profits without considering the consequence of his actions towards the company's future performance.

Drawbacks of Profit Maximization
- Profit maximization is a short-term concept.
- Profit maximization does not consider the timing of returns.
- Profit maximization ignores risk.

Maximization of Shareholders' Wealth

The goal is o maximize the shareholders' wealth for whom it is being operated. It being measured by the share price of the stock, which in turn is based on the timing of returns, the amount of the returns and the risk or uncertainty of the returns.

It also means maximizing the total market value of the existing shareholders' common stock. All financial decisions will affect the achievement of this goal. Shareholders' wealth maximization can be achieved by considering the present and potential future earnings per share, timing of returns, dividend policy and other factors that affect the market price of the company's stock.