Difference between Profit Maximization and Wealth Maximization
In the bygone eras of mercantile capitalism, profit maximization was the sole aim of the companies. It led to the exploitation of the resources with no focus on the creation of value. As a result, many companies after recording huge profits couldn’t sustain the growth and went bankrupt.
What is profit maximization:
The industrial revolution saw the setting up of the factories and manufacturing of good. The bottom line was to minimize the expenditure and maximize revenues to boost profit. It is essential for the survival of business because nobody wants to run a loss making enterprise. Financial controller of the firm ensures that the profit increases but it is not the sole aim of the company. The term profit is calculated by deducting the total expenses from the total revenue.
What is wealth maximization:
Wealth maximization is a brand concept, unlike the first one as it concentrates on enhancing the value of the stock of a company. It depends on varieties of factors such as the good will of the company or the quality of the goods and services provided to the customers. Firms can increase their customer base in the market and enhance the wealth of the stakeholders. All financial decisions are taken to ensure that the company records the highest net worth. In fact, the valuation of the stocks depends on the earning per unit and the market capitalization.
Difference between profit and wealth maximization:
Profit maximization is a tactical or a short term gain while wealth maximization is calculated from a long-term perspective and is associated with the valuation of the stocks.
During evaluation of profit, the risks are not taken into account while wealth maximization includes them along with opportunities. Profit doesn’t recognize the time value of money while wealth quantifies the same. Wealth maximization pertains to the overall value of the organization and its role in enhancing the market share.
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Which approach is better?
Stressing solely on profit is an age old method that is well past its use date. Modern companies use the criteria of wealth maximization to grow in the marketplace. One of the most important attributes of the wealth creation is that it is dependent on cash flows and not the profit. The figures are transparent unlike the profit mode wherein the account books are manipulated.
Since profit maximization aims at the short term gains, it may not be sustainable from a long-term perspective. Moreover, the value of money changes according to time. For instance, 500 dollars two years ago may valueless in the current scenario when adjusted for inflation on a yearly basis.
Wealth maximization is an accurate view of the health of company rather than solely relying on profits. Its primary objective is to increase the net worth of the company. A business entity can witness soaring stocks if it has a robust working culture followed by the delivery of competitive and innovative products as well as services. A more accurate picture of the health of the company is evident in the way when the associated risks are taken into account.