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CA Intermediate · Financial Management and Strategic Management · Scope and Objectives of Financial Management

Which of the following best describes the primary difference between profit maximisation and wealth maximisation as objectives of a firm?

Wealth maximisation takes into account the timing and risk of cash flows by discounting them to present value, while profit maximisation relies on accounting profit and ignores both time value of money and risk. That is why wealth maximisation is considered the superior objective.

  1. AProfit maximisation considers the time value of money and risk, whereas wealth maximisation ignores them
  2. BWealth maximisation considers the timing and risk of cash flows, whereas profit maximisation does notCorrect
  3. CWealth maximisation focuses on short-term accounting profit, whereas profit maximisation focuses on long-term value
  4. DBoth objectives are identical because higher profit always leads to higher share price

Explanation

Wealth maximisation is based on the present value of expected future cash flows, so it accounts for both timing and risk. Profit maximisation uses accounting profit, ignores the time value of money and risk. Option A reverses the two objectives.

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