3.1.4 - Business Objectives

Question 1

What is the basic formula for calculating profit?

Answer 1

PROFIT = TOTAL REVENUE - TOTAL COSTS

Question 2

How can profit also be expressed in terms of average revenue and average cost?

Answer 2

PROFIT = AR - AC x Q

Question 3

What is normal profit?

Answer 3

The lowest level of profit that will keep the firm in this line of business, covering the opportunity cost of all involved factors of production.

Question 4

What is excess profit?

Answer 4

Any profit over and above normal profit, also known as Supernormal Profit, Abnormal Profit, Monopoly Profit, or Economic Profit.

Question 5

List the three vital roles of profits.

Answer 5

• Reinvestment funds for the firm
• An indication of success (showing that allocative and productive efficiency are reached)
• A reward to owners

Question 6

What key assumption is made in economics regarding firms?

Answer 6

Firms are profit maximisers.

Question 7

Why is the assumption of profit maximisation important?

Answer 7

Without this assumption, predicting the behaviour of firms would require treating each case individually.

Question 8

What should be noted about the assumption of profit maximisation in real life?

Answer 8

It may not be the case that all firms are profit maximisers.

Question 9

True or False: Profit maximisation is the only aim of firms in economics.

Answer 9

False

Question 10

Fill in the blank: Excess profit is also known as _______.

Answer 10

[Supernormal Profit]

Question 11

What is the ‘divorce of ownership and control’?

Answer 11

The idea that owners (shareholders) may not be the same as those who run the firm (managers)

This creates a conflict of interest regarding profit maximization.

Question 12

Why might managers not work hard to maximize profits for shareholders?

Answer 12

Managers may not feel incentivized to work hard for the profits of others

They may prioritize their own interests over those of the shareholders.

Question 13

How do owners incentivize managers to align their interests with profit maximization?

Answer 13

Owners often pay managers in company shares

This aligns managers’ rewards with the performance of the firm.

Question 14

What is the role of the board of directors in a firm?

Answer 14

To monitor managers and ensure they are making decisions that benefit profits

They are appointed by the owners.

Question 15

What are activist shareholders?

Answer 15

Large shareholders who use their voting power to influence management decisions

Examples include pension firms with significant shareholdings.

Question 16

What is the condition for profit maximization in a firm?

Answer 16

The firm should produce where MC = MR

MC is marginal cost and MR is marginal revenue.

Question 17

Why is it difficult to find profit maximization in practice?

Answer 17

Firms may struggle to accurately determine MC and MR

They do not have clear graphs to analyze costs and revenues.

Question 18

Fill in the blank: Managers are incentivized to maximize their own incomes by maximizing the _______.

Answer 18

share price

Question 19

True or False: All shareholders have the same level of influence over management decisions.

Answer 19

False

Large shareholders have more voting power than smaller ones.

Question 20

What is the primary objective of profit maximisation?

Answer 20

Where MR = MC, this gives you the price Pp and quantity Qp.

MR stands for Marginal Revenue and MC stands for Marginal Cost.

Question 21

What does revenue maximisation occur at?

Answer 21

Where MR = 0, this gives you the price Pr and quantity Qr.

Revenue maximisation focuses on maximizing total revenue without regard to profit.

Question 22

What is the condition for sales maximisation?

Answer 22

Where AR = AC, this gives you the price Ps and quantity Qs.

AR stands for Average Revenue and AC stands for Average Cost.

Question 23

According to organisational theory, what are firms made up of?

Answer 23

Many different self-interested groups all with different aims.

This includes owners, managers, and workers, each with their own objectives.

Question 24

What might owners want in a firm?

Answer 24

Maximum profits.

This is often contrasted with the goals of other stakeholders like managers and workers.

Question 25

What do managers typically aim for?

Answer 25

Sales growth. ## Footnote Managers may prioritize expanding sales over maximizing profits.

Question 26

What do workers generally desire?

Answer 26

High wages. ## Footnote Worker interests often influence firm decisions, especially in unionized environments.

Question 27

What historical factor influenced firms to prioritize worker aims in the 1970s?

Answer 27

Trade union power. ## Footnote This led to firms sacrificing profits for higher wages.

Question 28

What significant political change occurred in the 1980s regarding firm objectives?

Answer 28

Thatcher did much to redress the balance of power between trade unions and business owners, so owners came more to the fore. ## Footnote This shift emphasized owner interests over worker demands.

Question 29

True or False: Owners always want to profit maximise.

Answer 29

False. ## Footnote Owners may choose to pursue other objectives beyond profit maximisation.

Question 30

Where does Profit Maximisation Occur on this Graph?

Answer 30

MC=MR ## Footnote Price Pp and Quantity Qp

Question 31

Where does Revenue Maximisation Occur on This Graph?

Answer 31

MR=0 ## Footnote Price Pr and Quantity Qr

Question 32

Where does Sales Maximisation Occur on this Graph?

Answer 32

AR=AC ## Footnote Price Ps and Quantity Qs

Question 33

What is satisfacing in the context of business objectives?

Answer 33

Satisficing is when managers do enough to keep shareholders happy but then choose to follow their own aims after delivering sufficient profit. ## Footnote This may lead to managers enjoying high pay and perks, potentially limiting overall profitability.

Question 34

What does revenue maximisation involve?

Answer 34

Revenue maximisation involves trying to get as much money from sales as possible, often incentivized by bonuses for achieving high sales levels. ## Footnote This approach may be easier to achieve than profit maximisation.

Question 35

How does output/growth maximisation differ from revenue maximisation?

Answer 35

Output/growth maximisation is similar to sales maximisation but may involve accepting short-term losses to achieve long-term growth and market dominance. ## Footnote An example is Amazon's strategy when it first started.

Question 36

What is the objective of social welfare in government-owned firms?

Answer 36

The objective of social welfare is to achieve allocative efficiency and maximise consumer surplus, often seen in services like the NHS and state education. ## Footnote These firms may aim for breakeven while maximizing quantity.

Question 37

What is a contentious issue regarding corporate social responsibility?

Answer 37

A contentious issue is whether firms claiming to pursue corporate social responsibility are genuinely ethical or merely aiming to maximise long-term profits. ## Footnote For instance, McDonald's decision to avoid deforestation may be more about enhancing brand image than ethical concerns.

Question 38

True or False: Managers pursuing satisficing may not maximize overall profit.

Answer 38

True ## Footnote Managers may prioritize personal aims over maximizing profits for shareholders.

Question 39

Fill in the blank: Output/growth maximisation may involve accepting _______ to achieve long-term growth.

Answer 39

short-term losses ## Footnote This strategy aims for market dominance and economies of scale.

Question 40

What may government firms sacrifice to achieve ethical standards?

Answer 40

Profits ## Footnote This is often seen in government-run services where the goal is not to make losses.

Question 41

What does Milton Friedman suggest about the social responsibility of firms?

Answer 41

Friedman suggests that the social responsibility of firms is to maximise profits, thus increasing allocative and productive efficiency. ## Footnote This perspective challenges the idea that businesses should prioritize social goals over financial performance.

Question 42

Why might Firms pursue Cost Minimisation? ## Footnote Where does Cost Minimisation occur on a Cost/Revenue Diagram?

Answer 42

This may occur if a firm is trying to force another rival out of the market with low prices (Predatory Pricing). ## Footnote It will produce at MC=AC and then price at this very low level (making no excess profits) to drive another firm out.