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Thus, profit maximization ignores the timings of returns, cash flow available to shareholders and risk. It does not consider the risks and uncertainty as inherent to business operations.
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Assignment 1 Batch 15 Term II Section A Instructor Prof. Jijo Lukose Group Number NA Group Members (Name with Reg no) EPGP-15A- 100 VIKIN JAIN
Question 1 For what three main reasons is profit maximization inconsistent with wealth maximization? Answer. Profit maximization is inconsistent with wealth maximization because profit maximization focuses on increasing the profit of the company in the short term, while wealth maximization focuses on increasing the market value of the company’s shares in the long term. Thus, profit maximization ignores the timings of returns , cash flow available to shareholders and risk. It does not consider the risks and uncertainty as inherent to business operations. It focuses on achieving efficiency in the company’s day-to-day operations to make the business profitable either by increasing their revenue or minimizing their cost structure. While in wealth management, as the market value depends on several tangible and intangible factors, it is achieved by attaining a leadership position, which translates to a larger market share and higher share price with consideration of inherent risks and uncertainties of the business. Question 2 Liability Comparisons John Bailey invested $50,000 in The Entertainment Company seven years ago. He is concerned about the future of the firm as the profits have plummeted over the last four years. The firm has $120,000 in outstanding debt and is considering declaring bankruptcy. a. If John is the sole proprietor, describe the financial implication of the firm going bankrupt. b. If John and his brother, Peter, are partners with an equal partnership distribution, describe the financial implication of the firm going bankrupt. c. If the firm is a corporation, describe the financial implication of the firm going bankrupt. Answers****. (a) John being the sole proprietor, he will be held personally liable for the complete outstanding debt, i.e., $120,000. (b) In case of equal partnership, liability for outstanding debt will be divided equally between John and Peter, thus, they will be held personally liable for the $120,000 in outstanding debt with the distribution being equal, each one is liable for $60,000. (c) In case of corporation, there is no personal liability. John being an investor will only be held liable for invested amount, i.e., $50,000 against the outstanding debt, i.e., John will lose his complete investment. Question 3
Is the management of Nelson Corporation acting in the best interest of the Nelson Corporation stockholders? Explain your reasoning Answer. Though, the offer extended by M/s Pollack Enterprises seems irresistible as they are offering more than the market price, i.e., $38.60 per share against the market value of $27.80, i.e., almost 39% increase from the current market price. With this purchase, shareholders will of course get benefitted. However, this offer is not normal stock purchase, but an acquisition of the company, i.e., the company will no longer be in the hands of present major shareholders and present management. Thus, there can be a bias in making the right decision. Though by not accepting this offer, the shareholders will be at loss, only when we ignore the future anticipated wealth, this company is able to generate. Thus, if the management thinks that it can improve profitability to the extent that share price will go beyond the offered price, then, the offer should not be accepted. Moreover, the company should also analyse whether at the current market, company is undervalued or overvalued and with the anticipated upcoming projects, what the situation will be. The company can fight by putting up counter offer above $38.60, if most of the major investors are seeking exit. However, if firm can add value or and not able to correct the market if undervalued, then the company accept the offer in the interest of the shareholders.
