Every firm has a predefined goal or an objective. Therefore the most important goal of a financial manager is to increase the owner's economic welfare. Here economics welfare may refer to maximization of profit or maximization of shareholders wealth. Therefore shareholders, wealth maximization (SWM) player a very crucial role as far as financial goals of a firm are concerned.
Profit is the remuneration paid to the entrepreneur after deduction of all expenses. Maximization of profit can be defined as maximization the income of the firm and minimizing the expenditure. The main responsibility of a firm is to carry out business by manufacturing goods and services and selling them in the open market. The mechanism of demand and supply in an open market determine the price of a commodity or a service. A firm can only make profit produces a good delivers a service at a lower cost than what is prevailing in the marker. the margin between these two prices would only increase if the firm strives to produce these goods more efficiently and at a lower price without compromising on the quality.
Clear concept : The concept 'wealth maximization' is clear to all. Here wealth means the shareholders assets which is expressed through net preset value.
Consider time value of money : Time value of money is considered by the wealth maximization. While estimating the wealth of shareholders, time value of money is considered properly.
Consider cash flow : The wealth maximization policy is based on the concept of cash flows generated by the decision rather than accounting profit. cash flow is a precise concept with a definite connotation.
Consider risk : Wealth maximization formula pays the due weightage to risk factor by making necessary adjustment is the discount rate. Here discount rate used to determine preset value of future streams of cash earning reflects risk.
Measuring performance : For efficient management, firm has to appoint professional manager. The manager act as agents on behalf of shareholders. The wealth maximization greatly depends on the efficiency of making decision of managers. So wealth maximization acts as an indicator of manager's performance.
Emphasize long term growth : Long-term growth would be emphasized by wealth maximization theory. In this concept, the price of shares and the present value of firm are given importance. As a result, long -term growth can be ensured.
Contemplate on market price of share : In wealth maximization concept, firm contemplates on the market price of share. Because, the financial state of a firm is reflected by the market price of share.
In conclusion, we can say, wealth maximization is better than profit maximization in the long run of the business.