Profit describes the financial benefit realized when the revenue generated from a business activity exceeds the expenses, costs, and taxes involved in sustaining the activity in question. Any profits earned funnel back to business owners, who choose to either pocket the cash or reinvest it back into the business. Profit is calculated as total revenue less total expenses. Profit can be taken as a motivational force behind doing business, but it does have a lot of limitations, also, because of which it cannot be taken as a good objective of the business.
Profit is a narrow term, as it only indicates the rise in profit whereas ignoring all the other factors related to the growth of the organization. Also, profit maximization does not indicate a specific objective and is vague (profit may be different from every organization)
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Whereas, Wealth is the abundance of valuable financial assets or physical possessions that can be converted into a form that can be used for transactions. An individual possessing a substantial net worth is known as wealthy. Wealth measures the value of all the assets of worth owned by a person, community, company, or country. Wealth is determined by taking the total market value of all physical and intangible assets owned, then subtracting all debts. Essentially, wealth is the accumulation of scarce resources. Wealth can be contrasted to income in that wealth is a stock and income is a flow, and it can be seen in either absolute or relative terms.
Wealth is the main objective of Financial Management, which is a better concept than profit maximization. Because, wealth is specific to its objective and term, it takes into the consideration time value of money and quality of objects, i.e. risk associated with returns. This concept is broader and definite for being an objective for a company to survive for the long term in the market.
The essential difference between the maximization of profits and the maximization of wealth is that the profits focus is on short-term earnings, while the wealth focus is on increasing the overall value of the business entity over time.
Under profit maximization, the immediate increase of profits is paramount, so management may elect not to pay for discretionary expenses, such as advertising, research, and maintenance Also, for-profit maximization, management minimizes expenditures, so it is less likely to pay for hedges that could reduce the organization’s risk profile. Whereas for wealth maximization, management always pays for the discretionary expenditures to expand its income and to incur more specific returns. A wealth-focused company would work on risk mitigation, so its risk of loss is reduced and would prefer paying up the expenses to make it more definite on it spending and so that further loss is not incurred because of saving the expenses.
When management wants to maximize profits, it prices products as high as possible to increase margins and to incur more gains for which it could also reduce the quality of the product to incur less cost and maximize the difference. A wealth-oriented company could do the reverse, electing to reduce prices to build market share over the long term also maintaining the quality to gain goodwill in the market is a part of wealth maximization for many companies which help them acquire a long term position in the market.
It is apparent from the preceding discussion that profit maximization is a strictly short-term approach to managing a business, which could be damaging over the long term capturing the market and could lead company losses in its other objectives. And, wealth maximization focuses attention on the long term, requiring a larger investment and lower short-term profits, but with a long-term payoff that increases the value of the business.
Tanya Aggarwal
BBA/4/M/B
