wealth max (fm)
TRANSCRIPT
WEALTH MAXIMIZATION
AJAY KURIEN
WEALTH MAXIMISATIONWealth maximisation is the appropriate objective of
an enterprise. Financial theory asserts that wealth
maximisation is the single substitute for a
stockholder’s utility. When the firm maximises the
stockholder’s wealth, the individual stock holder can
use this wealth to maximize his individual utility. It
means that by maximizing stockholder’s wealth the
firm is operating consistently towards maximizing
stockholder’s utility.
A stockholder’s current wealth in a firm is the
product of the no: of shares owned multiplied
with the current stock price per share
Stockholder’s current wealth = No: of shares owned * Current stock price/ share
Or
Wo = NPo
Higher the stock price per share the greater will be the stockholder’s wealth. Thus a firm should aim at maximizing its current stock price. This objective helps in increasing the value of shares in the market. The share’s market price serves as a performance index or report card in progress. It also indicates how well management is doing on behalf of the shareholder.
It can be concluded by ;
Maximum utility Maximum
stockholder’s wealth Maximum
stock price per share
However, the maximization of the market price of
the share should be in the long run. The long run
implies a period which is long enough to reflect the
normal market value of the shares irrespective of
short-term fluctuations.
While pursuing the objective of wealth
maximization, all efforts must be put in fourth for
maximising the current present value of any course of
action. Every financial decision should be based on
cost benefit analysis. If the cost is lower than the
benefit, the decision will help in maximising the
wealth.
Implications of wealth maximisation
There is a rationale in applying wealth
maximising policy as on operating financial
management policy. It serves the interest of
suppliers of loaned capital, employees,
management and society. Besides share
holders, there are short-term and long term
suppliers of funds who have financial interest
in the concern. Short-term lenders are
primarily interested in liquidity position so
that they get payments in time.
Advantages :
It serves the interests of owners, (equity
share holders ) as well as other share holders.
The objective of wealth maximisation implies
long-run survival and growth of the firm.
It takes into consideration the risk factor and
time value of money as the current present
value of any particular course of action is
measured.
The effect of dividend policy on market price
of share is also considered.
Disadvantages:
It is a prescriptive idea.
The objective of wealth maximisation is
not socially desirable.
There is some controversy as to
whether the objective is to maximise the
shareholder’s wealth or the firms wealth
which includes other financial claim
holders.
ThANk yOu........