"The considertion of his own privte profit is the sole motive which determines the owner of ny cpitl to employ it either in griculture, in mnufctures, or in some prticulr brnch of the wholesle or retil trde." (Smith, 1965)
In the following pper I will discuss the theories of profit mximiztion tht rgue bout different pproches to the question. Discussion includes Bumol's theory of sles mximiztion, mngeril utility theory by Willimson nd the theory of stisficing introduced by Simon.
Sles mximistion under profit constrint does not men n ttempt to obtin the lrgest possible physicl volume (which is hrdly esy to define in the modern multi-product firm). Rther it refers to mximistion of totl revenue (dollr sles) which, to the businessmn, is the obvious mesure of the mount he hs sold. Mximum sles in this sense need not require very lrge physicl outputs. To tke n extreme cse, t zero price physicl volume my be high but
dollr sles volume will be zero. There will normlly be well determined output level which mximises dollr sles. This level cn ordinrily be fixed with the id of the well known rule tht mximum revenue will be ttined only t n output t which the elsticity of demnd is unity, i.e. t which mrginl revenue is zero. (Johnson, Scholes, 2006)
The essentils of Bumol's model cn most esily be exmined with the help of digrm showing totl cost nd totl revenue curves. (Thompson, 2001) Hence Figure1 shows possible totl cost nd totl revenue curves for typicl price mker denoted s TC nd TR respectively. lso shown is profit curve () showing, for ech level of output, the difference between totl revenue nd totl cost. The output t which revenue is mximum in the cse illustrted is Q1, whilst the profit-mximizing level of output is Q3. However, the firm's choice of output lso depends upon the level of profit required to keep shreholders hppy, nd three possible cses re shown in the digrm. When the required level of profit is 1, it is less thn the profit erned t the revenue-mximizing output of Q1 nd so tht is the output produced. If, however, the required level of profit is 2, the profit t Q1 is insufficient to meet this requirement, nd the mximum revenue it cn obtin with profit of 2 is t output Q2, so tht is the chosen output in this cse. It should lso be pprent from the digrm tht s the required level of profit rises the output tht mximizes revenue subject to obtining the required profit flls nd, in the cse illustrted, when the required profit level rises to 3 the only wy the firm cn meet it is to mximize its profits nd produce n output of Q3. Similrly, of course, if the firm's opportunities to ern profits bove the level required by shreholders re restricted by competitive conditions, the possibility of pursuing other thn profit-mximizing objective will lso be limited. However, in less competitive environment this model predicts tht firms will produce n output greter thn the profit-mximizing output, which will hve to be sold t lower price. (Thompson, 2001)
The model cn be elborted further to tke ccount of dvertising behviour nd the like, but the simple cse illustrted in Figure 1 is sufficient to demonstrte one interesting feture of the model relting to the response of the firm to profits tx. If such tx is imposed, whether it is lump-sum or proportionl tx on profits, the profits