In any major company, the business finance decisions hinge upon two main factors the long term and the short term goals. When time is of the essence especially for a new company or a startup, or at the beginning of a production cycle for a disruptive new product, most companies would focus on Profit Maximization.
However, as the product and company matures and begins to move towards a more sustainable model where it looks to makes the most, in the long run, Wealth Maximisation makes its appearance.
But as most things in life, the differences between these two avenues of wealth creation isn’t cut and dry and while one may appear to give you a better bargain, at the end of the day there are certain moral dilemmas that needs to be addressed.
Difference Between Profit Maximization and Wealth Maximization
The Difference Between Profit Maximization and Wealth Maximization
Often new companies start from fresh entrepreneur ideas and as struggling businesses often the first order of the day is to get the establishment into the green so that they can hire more people and continue to expand. However, there are some inherent risks that are associated with this way of thinking about business finance.
(1) Concept Difference between Profit Maximization and Wealth Maximization
As we have harped on in the beginning of the essay, there is a stark difference in both of these when it comes to conceptualizing wealth creation. A company that is into wealth maximization is mostly concerned with increasing the market value of its share and doesn’t look for short term gains in profit margins.
In a nutshell, looking at it from an employee’s perspective, we can say that the individuals in a company often have to make the choice between career development maximisation vs wealth maximisation.
(2) The Difference in Outlook
Companies that look to maximize the profit margins often take more risks. There is an inherent risk factor that goes proportionally upward as there is an emphasis on increasing the profits. A company that is focussed on wealth management will try to minimize such risks as they need to keep their shareholders contented as they are the eventual owners of the company.
This leads to a change in mentality where one company looks to decrease overhead and keep a tight hold on production line and manufacturing costs to gain short term benefits in term of monetary gain, the other on takes a different business finance thought process of investing more in Research and Development and increasing production capacity citing long term influx of demand
(3) A Change in Pricing Strategy
When profits are of utmost interest or a company goes into a new niche where it is without any significant competition, then it can elect to price its products at a higher range. Often startups in very innovative fields employ this strategy as they need to get their business off the ground as fast as possible and maximizing profits is one of the first tenants of survival.
On the other hand, companies with more focus on wealth management will often reduce the price and take a hit on instantaneous profit, instead choosing to expand their customer base and make up the lost revenue by increasing their sales numbers dramatically.
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(4) The Moral Dilemma
In the modern business world, every entity has to take a stand on the moral issues of exploitation of customers and workers alike. This is where profit maximization comes into scrutiny as it is universally regarded as exploitative and unrealistic to maintain for the long run.
Wealth maximization, on the other hand, ensures fairness to all members of the organisation including the shareholders as well as the dynamic allocation of resources that leads to happy customers. employees and a better society.
Wrapping it up we can understand that both of these financial strategies have their pros and cons and while running a business a financial advisor would do well to keep both of them in mind.
After all, despite all the negative aspects of Profit Maximization and the moral implications that come along with it, it is important to realise that without profit, a business will simply cease to exist.
Having said that, to stand the test of time one must focus on Wealth Maximisation. In the words of Warren Buffet the iconic American Business magnate, investor and philanthropist,
Time is the friend of the wonderful company, the enemy of the mediocre.