20

Segismundo, Ma. Isabella

12 Gilead Apolaki
Week 1 Exercise #1

1. Does profit maximization always lead to shareholders’ wealth maximization? Explain your answer:
While profits have a substantial impact on stock prices, finance literature suggests that the overall
goal of a company's management should be to maximize shareholder wealth rather than profit maximization.
Profits can be increased by taking additional risks, such as borrowing more money to fund expansion and
increase revenue. While increased borrowings can boost profits, they can also expose the company to more
risks and potentially result in operating losses if external shocks occur and negatively impact the company's
operations. When evaluating a stock, investors take this risk into account.

The risk-return trade-off of management decisions and a company's prospects are included into
shareholder wealth maximization. Because there is no market price for the stock to look at, the notions of
shareholder wealth maximization may be more difficult to apply in closely held firms. However, because new
investors may join the company or the controlling stockholders may opt to list the shares on the Philippine
Stock Exchange in the future, the management should remain informed of the aspects that influence the stock
price. When these chances arise, the elements that are thought to be important in properly evaluating a
company will be used.

The overall goal of management should be to maximize shareholder wealth through stock price
maximization because it encompasses all aspects of running a business and takes into account all
stakeholders. Stakeholders are not restricted to the company's stockholders. Management, employees,
suppliers, customers, creditors, regulatory agencies, and the community in which the company operates are all
stakeholders. The interests of these various stakeholders must be considered for a more independent and
sustainable operation.

Members of top management are motivated to build a longer perspective for the company they run by
the desire to maximize shareholder wealth. With this goal in mind, management will strive to satisfy customers
by offering high-quality products and services at competitive costs. To do this, management may need to
innovate, invest in technology, and improve their production and operation efficiency. Management may also
want to consider allocating a portion of profits to research and development in order to improve and maybe
grow the company's current product and service offerings.