[Comparison] -Profit maximization vs wealth maximization

profit maximization vs wealth maximization
profit maximization vs wealth maximization

Financial management

FM : means planning, organizing, directing and controlling financial activities, such as the acquisition and use of company funds. It means applying general management principles to the financial resources of the company.Investment decisions include investment in fixed assets (called capital budget). Investment in current assets is also part of the investment decisions called working capital decisions. To understand difference between- profit maximization vs wealth maximization, we must have a little bit knowledge of financial management

“In simple terms, the objective of Financial Management is to maximize the value of the company, however, it is much more complex than that. The management of the company involves many interested parties, including owners, creditors and various participants in the financial market.”

1. Financial decisions: they relate to obtaining financing from various resources that will depend on the decision on the type of source, the period of financing, the cost of financing and the corresponding returns.

2. Dividend decision: the finance manager must make a decision regarding the distribution of net earnings. Net earnings are generally divided into two:

  • Dividend for shareholders : the dividend and its rate must be decided.
  • Retained earnings : the amount of retained earnings must be finalized, which will depend on the company’s expansion and diversification plans.

The most basic financial management means not running out of cash.

Financial management generally deals with the acquisition, allocation and control of financial resources of interest. The objectives can be:

  1. Ensure a regular and adequate supply of funds to the company.
  2. Ensure adequate returns to shareholders that will depend on the earning capacity, the market price of the share, the expectations of the shareholders.
  3. Ensure optimal use of funds. Once the funds are obtained, they should be used as much as possible at the lowest cost.
  4. To guarantee the security of the investment, that is, the funds must be invested in safe companies so that an adequate rate of return can be achieved.
  5. To plan a solid capital structure: there must be a solid and fair composition of capital to maintain a balance between debt and social capital.
  6. Estimation of capital requirements: a finance manager must make an estimate with respect to the capital requirements of the company. This will depend on the expected costs and benefits and future programs and policies of interest. Estimates must be made properly, which increases the company’s revenue capacity.
  7. Determination of the composition of capital: once the estimate has been made, the capital structure must be decided. This implies a short and long term debt capital analysis. This will depend on the proportion of social capital that a company owns and additional funds that must be collected from third parties.
  8. Choice of sources of funds: to obtain additional funds, a company has many options such as:
  • Issuance of shares and obligations
  • Loans in charge of banks and financial institutions.
  • Public deposits to be drawn as in the form of bonds.

What are the main objectives of financial management?

The objectives of Financial Management are classified in general terms in the following mentioned below:

Wealth Maximization vs Profit Maximization – Infographic

profit maximization vs wealth maximization (info graphic)

Profit maximization:

Profit maximization is a short-term strategy and focuses on obtaining short-term gains. The management of a corporation is generally interested in profit maximization and strives to achieve protected monthly, monthly and annual income. The objective of maximizing the profile is pursued by management due to the pressure exerted by interested parties to achieve the established profit objectives.

Objective of Profit maximization

  • main objective is to obtain big profits
  • emphasizes in the short term goal
  • ignore the temporary value of money
  • ignores risk and uncertainty
  • ignore the return time
Some bullets point quickly:
  1. The benefit is the measure of the financial stability of the company, therefore, more benefits more stability.
  2. Promotes socio-economic well-being that leads to the maximization of shareholder wealth.
  3. Retained earnings act as the main source of financing for business plans.
  4. Efficient use of surplus funds for operational and economic activities.
  5. Increase the competitiveness of the company.
  6. Allows faster decision making skills of management teams.
  7. Helps shareholders to take control of the organization by limiting new shareholders participants.

Maximization of earnings as this directly influences your compensation, bonuses and benefits.

Wealth maximization

The maximization of wealth focuses on the cash flow that a company receives.the maximization of wealth reaches the objective when the market value of the shares increases. The maximization of wealth is an almost universally accepted objective of a company. According to this, managers must make decisions that maximize shareholder wealth.

Profit maximization is a traditional and narrow approach, in this process companies are subject to determine the best levels of production and prices to maximize their performance.

Objectives of maximizing wealth

The following are the objectives of maximizing wealth:

  • is the main objective to achieve the highest market value of the common shares
  • emphasizes long term
  • consider the temporary value of money
  • understand risk and uncertainty
  • identify the sources of return
  • To guarantee the availability of funds

The good financial situation of businesses is essential for any business to survive. The availability of funds at the right time of need is an important business objective. The organization will not be able to function without funds, and activities will stop.

Reach an optimal capital structure

To maintain the optimal capital structure, a perfect combination of obligations and actions is required. The organization will not want to give away too much equity & also control;; the cost of capital. It is a delicate balance.

Effective use of funds

Companies not only need a large amount of funds, but also skills to handle such large amounts. Reducing unnecessary costs and preventing funds from being wasted on useless assets is crucial for businesses. An example of misuse of funds would be to invest in additional raw material, in amounts not required.

Guarantee the security of the funds

The vital objective of financial management is to guarantee the security of your funds by creating reserves. The risk possibilities in the investment should be minimal possible. Some of the reserves created for this purpose are Sink Funds, General Reserves, etc.

Similarities between profit maximization objectives and wealth maximization objectives?

Both profit maximization and wealth maximization have the objective of increasing net worth.

Why is wealth maximization better than profit maximization?

The main commercial concern under this concept is to improve the value or wealth of the shareholder. Wealth maximization considers the comparison of value with the cost associated with the business. Total value detected of the total cost incurred in the commercial operation. The maximization of wealth considers both time and business risk. Wealth maximization provides an efficient allocation of resources.

Conclusion

Both objectives of financial management are important for the business. It will not be appropriate to point out what is important.The benefit is the basic requirement of any organization, it cannot be ignored because it is necessary for the survival of the organization.

In addition, shareholders are investing in the organization expecting higher rates of return. If the organization ignores this aspect, the shareholders will lose confidence in the company and will go back, which will affect their reputation.

Therefore, it can be concluded that both decisions are significant in different ways. For day-to-day decision making, maximization can be considered, but when it comes to decisions regarding maximizing shareholder wealth, it must be taken into account.

Also Read : Passive Income Ideas For 2019 In India

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