Firms are organisations often involving thousands of people directly, with millions of people indirectly involved. Not all people directly or indirectly involved in an enterprise have the same goals or gain the same rewards. For example, entrepreneurs take business risks and expect a profit from their entrepreneurial skill and effort whereas managers, who are appointed by owners to make decisions, are not rewarded with profits. Managers receive a salary and other benefits, such as a company car, and may be motivated to maximise revenue, out of which salaries and other benefits are paid. Employees, and the unions they belong to, will hope the business survives so that they retain their employment in the long run and pay a decent wage. The local community will hope the business provides jobs, without generating excessive external costs. The government will also hope that firm’s survive, prosper, and grow as their tax revenues depend on this happening.
Economists identify the following different motives:
Maximising profits means achieving the highest possible profit for the risk taker. Profits are achieved when a firm’s revenue is greater than its production costs. Profit maximisation has long been assumed to be the dominant goal of private enterprise, a view that dates back to Classical and neo-classical economists of the late 19th Century.
Economists distinguish different types of profit, including normal profit, which is just sufficient to keep the entrepreneur supplying their enterprise, and super-normal, or abnormal, profit, which is profit in excess of normal profit. Earning normal profit is also said to occur when the single entrepreneur or firm just covers opportunity cost and chooses to keep supplying to the market.
Sales volume maximisation
To maximise sales volume means to sell as many products as possible, without making a loss. This means the firm must produce an output where the total revenue generated from sales just covers the total costs of production.
Sales revenue maximisation
Maximising total revenue means gaining the maximum possible revenue from selling a product. Economic theory suggest that a price can be identified which achieves this goal. Sales revenue, or sales turnover, maximisation is associated with ‘managerial’ theories of business motives, which stress the importance of management decision making in large organisations.
Some firms may wish to increase their share of a market. This motive is significant for firms operating in markets with a few large competitors, called oligopolies, and where winning market share from rivals is less risky and costly than trying to win brand new customers.
Some firms take a short-term view and simply want to survive. Survival is significant for new firms and those in highly competitive markets. It is also common when there is a downturn or recession in the macro-economy, meaning that consumer spending falls across the whole economy.
To increase shareholder value means to increase the asset value of the business. Shareholder value is defined as the remaining value of the business once all debts have been paid.
Satisficing is a term first used by Herbert Simon in 1957, and means attempting to take into account a number of different and competing objectives, without attempting to ‘maximise’ any single one. For example, managers may first try to ensure that shareholder’s get a reasonable rate of return first, and then seek to reward themselves. Satisficing can also be referred to as ‘profit satisficing’.
The dominance of a goal depends upon a number of criteria, including:
Who owns the firm?
Owners often have different objectives that those appointed to manage the firm’s operations. For example, sole traders may try to maximise profits, whereas public limited companies (plcs) may try to increase shareholder value. In contrast, not-for-profit firms may simply wish to maximise sales volume, or another, non-commercial objective.
Who manages the firm?
Firms that are managed by their owners, such as sole traders, may try to maximise profits, whereas firms run by professional managers may look to maximise sales revenue, given that they are usually paid a salary from revenue rather than from profit.
How large the firm is?
Small firms may simply hope to survive, whereas larger firms may expect to develop market share.
What competitors are doing
If one, perhaps the dominant firm in a highly competitive market, introduces a new strategy this often becomes shared by all firms in the industry. The concern with ethical and environmental issues has gained momentum as, one-by-one, large plcs have introduced an ethical and environmental dimension to their operations. This is often called a ‘band-wagon’ effect.
The time period
In the short run, basic goals such as survival may dominate, while in the long run more challenging goals may dominate, such as maximising shareholder value, or introducing environmental goals.
Goals change to reflect changing conditions and circumstances of particular firms.
Example – Tesco
When Tesco started at the end of the First World War its co-founder, Jack Cohen, was likely to have been more concerned as a sole trader with day to day survival. Five years later Cohen formed a partnership with T E Stockwell to create Tesco and set up their first store. In 1932, Tesco became a private limited company and by 1947, it had floated on the stock exchange and become a public limited company. This enabled capital to be raised to finance a rapid expansion programme during the 1950s and 1960s. During the 1970s, Tesco built a national store network and in the 1990s it introduced the Tesco Clubcard. In 2000, it launched Tesco.com, and widened its range of products to include electrical goods and clothing. By 2008, it had stores in 13 countries and a dominant market share in the UK grocery market of around 32%, with group profits of £2.8b on revenue of £47.3b. As Tesco has evolved and changed its legal structure, its motives and goals have clearly changed to reflect its success, and the changing nature of the market and competition it faces. (Source: Tescoplc.com)
Conflicts between goals
It should be clear that there are likely to be conflicts between competing goals. For example, the desire to maximise profits may be in conflict with a number of other goals, including sales maximisation, sales revenue maximisation and ethical goals. These conflicts will become clearer once the main goals are analysed in subsequent pages.