Q. Show Limitations of Profit maximization?

The Profit maximization criterion is criticized on the following grounds:

i) Quality of Benefits: Profit maximization approach ignores the quality aspects of benefits Associated with a financial course of action. The quality means the degree of certainty with which benefits are expected.

ii) Ambiguity-Vague: The term 'profit' is vague and has different interpretations. It means different things to different people. It can be pre-tax or post-tax profit. It is not clear whether it is short-term profit or long-term profit. Does it mean operating profit or profit available for shareholders? The other equivalent term, often used, is 'Return'. Return can be on total capital employed or total assets or shareholders equity and so on.

iii) Timing and Value of Money-Ignored: The concept of Profit maximization does not help in making a choice between projects, giving different benefits, spread over a period of time. It ignores the difference in time in respect of benefits arising from the similar amount of investment. The fact that a rupee received today is more valuable than the rupee received --, later is ignored in this concept.

iv) Change in Organization Structure: Principle of Profit maximization was, earlier, accepted when the structure of the business was sole proprietorship. In this type of structure, sole proprietor managed the business, individually, and was the recipient of total profits. As total profit belonged to him, his wealth maximized. This was the picture in 19th century, when the business was, totally, self-managed.

v) Social Welfare may be ignored: Due to Profit maximization objective, business may produce goods and services, which may not be necessary and beneficial to the society. So, it is, indeed, doubtful how far the Profit maximization objective serves or promotes social welfare, let alone optimizes social welfare.

vi) Ignores Financing and Dividend Aspects: The Profit maximization concept concentrates on profitability aspect alone and impact of financing and dividend decisions on the market value of shares are, totally, ignored.

Thus, it is concluded that Profit maximization should be the basic criteria for decision-making. The primary responsibility of financial manager is to strike judicious balance between return and risk in order to maximize the profits.