Outline the main reasons why most companies pursue profit maximisation as their main business objective and explain how the following concepts can influence its achievementa) Price elasticity of demand (b) Income elasticity of demand (c) Labour productivi

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1) Outline the main reasons why most companies pursue profit
maximisation as their main business objective and explain how
the following concepts can influence its achievement:

(a) Price elasticity of demand
(b) Income elasticity of demand
(c) Labour productivity

Profit is essential to all companies and this report will look at why they are needed and how they are affected by external and internal factors. This report will focus on four main topics. The first being profit maximisation. In this section this report will examine what profit is, what it is used for and how a company can maximise it. The second segment of the report will focus on price elasticity of demand. After reading this section it will be clear what price elasticity of demand is, how it affects products, how it effects total revenue and profit and what a company can do to use price elasticity of demand to maximise profits. The next section centres on income elasticity of demand. In this section it will be discussed what income elasticity of demand is, what products its effects and how, how it effects profits and how a company can use income elasticity to maximise profits. The final stage of the report will concentrate on labour productivity, what labour productivity is, how it affects profits and how a company can increase labour productive to maximise profits. We will now examine why profit maximisation is a crucial business objective.

        Profits can be defined as total revenue from sales minus total production costs, or Profit (∏) = TR – TC (Renshaw, 2005, p302). This can be depicted graphically as:

The shaded area of the diagram illustrates when a company would be in profit, i.e. when total revenue exceeds total costs. Point ‘q’ shows the optimum output level required to maximise profits. It is vital that a company peruses profit and produces at this level as profits are needed for survival. They provide finance for investment. This is especially important for research and development in the ever increasing struggle to find new innovative products in competitive markets. Profits act as a reward for risk taking and due to this, are a clear indicator of corporate and business success.

When profits are achieved than can be used for many things. They could be paid to shareholders in the form of dividends or reinvested into the company to finance growth (organic growth). Profits are a good source of finance as there is no direct cost but there is an opportunity cost (i.e. the money could have been used for another purpose) and growth may be constrained when financed by profit as you can only invest the amount you have achieved in profit. As profits are so imperative “Economist assume that firms are in business to maximise profits” (Begg, D. and Ward, D., 2004, p104) and it is also assumed that all choices are “selfish and involve neither malevolence nor benevolence towards other agents” (Howard, M., 1983, p74). But, all of this being true, why did “Shipley (1981) concluded that only 15.9% of his sample of 728 a UK firms could be regarded as true profit maximisers,…Hornby (1994) 25% responded as ‘profit maximisers’ to the ‘Shipley test’” (Griffiths, A. and Wall, S., 2004, p53). This must show that managers need to be more focused to ensure there firms continued existence.

Griffiths, A. and Wall, S. (2004, p48) states “Profit is maximised where marginal revenue equals marginal costs” and the “The Profit Maximisation Rule” (Nellis, J. and Parker, D., 2002, p73) states that:

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Profits are maximised when marginal costs (MC) equal marginal revenue (MR). It is possible that over the forms potential range of outputs there are two points when MC=MR (point X and point Y).Producing at point X would not maximise profits because outputs up to X are produced where MC>MR. So technically profits are maximised when MC=MR AND the MC curve is rising (not falling), point Y on the diagram.

It is now clear why most companies pursue profit maximisation as their main business objective, as with out them a firm could not survive or grow. Profits can be ...

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