Wealth Maximization

Article byWallstreetmojo Team
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

What is Wealth Maximization?

Wealth maximization means maximizing the shareholder’s wealth due to an increase in share price, thereby increasing the company’s market capitalization. The share price increase directly affects how competitive the company is, its positioning, growth strategy, and profits.

Key Takeaways

  • Wealth maximization is a chain aiming to maximize shareholder wealth by increasing the share price, which technically increases market capitalization. 
  • Less uncertainty is associated with cash flows than profit maximization, and they are more predictable and consistent. So, profits are less important than cash flows.
  • To maximize value for shareholders, a company must first be profitable. Only then can it consider increasing shareholder wealth.
  • It is related to cash flows than profits, which are more certain and regular, with the absence of uncertainty associated with profit. However, it is based on a prospective and not a descriptive idea. 

Explanation

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Example

Advantages

Some of the advantages are as follows:

Disadvantages

Some of the disadvantages are as follows:

Conclusion

Wealth maximization has both merits and demerits attached to it. It is a very important factor for every investor before one invests in a company. They bring about happiness by generating good returns to their shareholders, and they tend to invest more in such companies, which may be required for their expansion or growth.

Frequently Asked Questions (FAQs)

Why is shareholder wealth maximization the primary goal?

To maximize shareholder wealth, a company’s main objective is to increase the price of its shares. Therefore, maximizing shareholder wealth might be beneficial since it offers managers of a company a specific goal for increasing value.

Why are wealth maximization and profit-maximizing at odds with one another?

Maximizing profits guarantees the company’s growth and longevity. Wealth maximization, in contrast, concentrates on a company’s long-term growth rate by growing its market share.

What is the theory of shareholder value in wealth maximization?

According to the shareholder theory, shareholders evaluate the worth of business assets using the two quantifiable indicators of dividends and share price. As a result, management should make choices that maximize the value of dividends and share price growth.

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