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BAUMOL SALES REVENUE MAXIMIZATION MODEL PDF

Baumol’s theory of sales revenue maximization was created by American economist William Jack Baumol. It’s based on the theory that, once a. W. J. Baumol suggested sales revenue maximisation as an alternative goal to profit maximisation.1He presented two basic models: the first is a static. W. J. Baumol suggested sales revenue maximisation as an alternative goal to profit maximisation.1 He presented two basic models: the first is a static.

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Maximizatioj the total production cost function is a straight positively-sloping line through the origin. With an accentuated kink, if demand shifts, advertising and output will increase, while price will remain unchanged, ceteris paribus, at the level of the kink. The firm is oligopolistic whose cost cures are U-shaped and the demand curve is downward sloping. The firm must realize a minimum level of profits to keep shareholders happy and avoid a fall of the prices of shares on the stock exchange.

Baumol recognizes that this is an unrealistic assumption, since with advertising the physical volume of output increases and the firm might move to a cost structure where production cost is different increasing or revenuw.

Baumol’s Sales or Revenue Maximisation Theory: Assumptions, Explanation and Criticisms

This behaviour, however, does not by itself provide a proof that the firm is a sales maximiser or mmaximization profit maximiser. If this were not so, the firm could increase R by reallocating the total advertising expenditure A among the different products, increasing advertising on those commodities for which the marginal revenue would be higher.

You must be logged in to post a comment. The total-revenue curve shifts upwards as advertising is increased. For the solution of the constrained maximisation problem we use the Lagrangian multiplier method.

However, the above reasons do not imply that businessmen are completely indifferent to actions of competitors. A firm in an oligopolistic market will prefer to increase its sales by advertising rather than by a cut in price. The application of these projects mqximization spread over time so as to avoid wide swings in the economic performance of the firm. Baumol does not establish the ,odel between the firm and industry. So both the sales maximiser and the profit maximiser would not be producing different levels of output.

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Of course the S curves may be non-linear, of any form. Clearly the further away from the origin an iso-present-value curve lies, the higher the discounted stream of revenues it depicts.

It should be stressed that the validity of this model rests on the crucial assumption that advertising always increases sales revenue. Marby and Siders computed correlation coefficients between sales and profits adjusted for trend over twelve years for large American Corporations. Further, they are essential for a firm for paying dividends on share capital and for meeting other financial requirements. We will develop this model using calculus so as to achieve maximum generality.

Since the products compete for the resources of the firm, the closer to the origin an isoprofit curve is the higher the level of profit it depicts.

For each industry Hall estimated a minimum profit constraint equal to the five-year mean profit rates for firms in the industry and he assumed that this is the same for all the firms of his sample moxel to that industry. This evidence was interpreted as refuting the sales-maximisation hypothesis. Baumol claims that an increase in overheads, or the imposition of a lump-tax, both lead to an increase in the price charged by firms.

Sales Maximisation Model of Oligopoly — Explained! Leave a Reply Click here to cancel reply.

Baumol’s Sales Revenue Maximization Model

MP is the minimum profit constraint line. The multi period model can be modified to allow for an exogenously determined minimum acceptable level of profit, as well as to allow for advertising and other non-price competition activities and for multiproduct activities. Given the shapes of costs and demand curves implied by the isorevenue and the isoprofit curves, output levels of both y and x are higher for a sales maximiser than for a profit maximiser.

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This conclusion holds for firms producing only one product, or one group of products.

Baumol’s Sales or Revenue Maximisation Theory: Assumptions, Explanation and Criticisms

Thus for any two products X i and X j we have. Such a family of total-cost curves is shown in figure The sales maximiser sells at a price lower than the profit maximiser. From maximizatioh above assumptions the following inferences can be drawn. But then production costs will increase, since MC is always positive.

Price will depend on the shift reveneu the demand and the cost conditions of the firm. But sales maximisation is regarded as the short-run and long-run goal of the management.

Baumol’s Managerial Theory of Sales Revenue Maximization

The sales maximiser will never choose a level of output at which price elasticity e is less than unity, because from the expression. R refers to the profit constraint. Thus, by changing advertising we may generate a family of aales curves, each representing the relationship of total revenue to output at different levels of advertising expenditure.

But the aim of the firm is to maximise its sales rather than profits. Clearly there is an infinite mosel of values of g and R that the firm may choose.

If the government imposes a lump-sum tax with the aim of maximizaton income away from the taxed firm, its goal will not be attained, since the sales maximiser will shift the burden to his customers by charging increased prices.

An increase in variable costs will lead the sales maximiser to an increase in price and a reduction in output.