Profit Maximization Model

1901 Words Dec 1st, 2012 8 Pages
SAMPLE ANSWER FOR QUESTION 5
Profit-making is one of the most traditional, basic and major objectives of a firm. Profit-motive is the driving-force behind all business activities of a company. It is the primary measure of success or failure of a firm in the market. Profit earning capacity indicates the position, performance and status of a firm in the market. In spite of several changes and development of several alternative objectives, profit maximization has remained as one of the single most important objectives of the firm even today.
Both small and large firms consistently make an attempt to maximize their profit by adopting novel techniques in business. Specific efforts have been made to maximize output and minimize production and
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They are as follows –
1. Profit maximization is the main goal of the firm.
2. Rational behavior on the part of the firm to achieve its goal of profit maximization.
3. The firm is managed by owner-entrepreneur.

Determination of profit – maximizing price and output
Profit maximization of a firm can be explained in two different ways.
· Total Revenue and Total Cost approach.
· Marginal Revenue and Marginal Cost approach.
Profits of a firm are estimated by making comparison between total revenue and total costs. Profit is the difference between TR and TC. In other words, excess of revenue over costs is the profits. Profit = TR – TC. If TR is equal to TC in that case, there will be break even point. If TR is less than TC, in that case, a firm will be incurring losses. In this case, we take in to account of total cost and total revenue of the firm while measuring profits.
It is clear from the following diagram how profit arises when TR is greater than that of TC.
2. MR and MC approach
In this case, we take in to account of revenue earned from one unit and cost incurred to produce only one unit of output. A firm will be maximizing its profits when MR= MC and MC curve cuts MR curve from below. If MC curve cuts MR curve from above either under perfect market or under imperfect market, no doubt MR equals MC but total output will not be maximized and hence total profits also will not be maximized. Hence, two conditions are
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